Question

a) Evaluate and explain the following assertion: “Profit maximization on the part of a monopolist means that the reduction in a value-added tax (VAT which it remits to the government) will not lead to a reduction in its prices”.

(b) Explain the case of deadweight welfare loss if there is an efficiency loss

Answer 1

a) As we know,

Profit = Revenue - Cost.

In other words, profit earned by a producer is the amount left in hand after settling all the cost of production out of total amount received on selling the produce. Value - added tax is nothing but an expense for producer. Explaning last component of assertion which is price not reduced and could be assumed constant here.

Coming back to the question , lets assume -

When the price is say $100, total cost incurred by the producer was $ 20 and VAT was $8.

Profit would be; $ 100 - ( 20+8) = $72

Now, when the price and total cost i.e $ 100 and $20 respectively and the VAT is reduced to say $6.

Profit would be; $100 - (20+6) = $ 74

Hence, reduction is VAT will not lead to reduction in price rather lead to profit maximisation for a monopolist as there is already no competition for him/her and the demand will pervail same throughout.

b) It is the loss of financial effectiveness as far as utility for purchasers/makers with the end goal that the ideal or allocative proficiency isn't accomplished.

Deadweight misfortune can be expressed as the loss of absolute government assistance or the social excess because of reasons like assessments or sponsorships, value roofs or floors, externalities and imposing business model evaluating. It is the overabundance trouble made because of loss helpful for the members in exchange which are people as shoppers, makers or the legislature.

For example: if a specific expense is forced on the maker for every unit of the great he sells, almost certainly, the new harmony value that is made due with the exchange will be higher and hence some weight of this will be given to the buyer.

This will prompt decreased exchange from the two sides. The loss of government assistance credited to the move from prior to this less proficient market system is known as the deadweight loss of tax collection. This prompts wastage or underutilization of assets because of wasteful market results.