February 12, 2010 Quiz 2 True-False Questions 1. If the supply curve for a good is upward sloping and the demand curve for the good is elastic, a per-unit tax on the good paid by sellers will decrease the total amount buyers spend on the good. Answer: True Below are the supply and demand curves for a good. demand curve price before tax price price after tax supply curve before tax supply curve after tax quantity A tax on sellers shifts the supply curve up by the amount of the tax. The supply curve after the tax is the dashed line in the figure above. The price that buyers pay increases and the quantity decreases. The price increase will have a positive effect on the amount buyers spend on the good. The quantity decrease will have a negative effect. Which effect dominates? If demand is elastic, the quantity effect dominates. The total amount buyers spend on the good falls.
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2. If the supply curve for a good is perfectly elastic and buyers pay a tax for each unit of the good they buy, an increase in that tax will not change the equilibrium price of the good. Answer: True A perfectly elastic supply curve is a horizontal line as depicted below. supply curve price demand curve w/o taxdemand curve with higher taxquantity demand curve with taxThe demand curve without a tax is the solid downward sloping line. A tax on buyers shifts the demand curve down by the amount of the tax. That curve is the dashed line. An even higher tax shifts the curve down even further, the dotted line in the figure. The equilibrium price is the same for both tax rates, however. With a perfectly elastic supply, buyers pay the full burden of the tax. The price that sellers receive is not affected the tax. 3. The deadweight loss of a tax is the reduction in the profits of buyers and sellers because of the tax minus the revenue raised by the tax. Answer: True See the definition of deadweight loss on page 69 of Bergstrom and Miller.