Question

1. It is a common misconception that the incidence of a tax (i.e., how the burden of the tax is actually divided between consumers and producers) depends on who is legally responsible for paying the tax to the government.
   1. [2 points] Briefly explain why the legal assignment of the tax does not determine the real incidence of the tax. For example, if the government collects the tax entirely from producers (it does not collect any taxes from consumers), how do consumers end up bearing part of the burden of the tax?

2. [2 points] What actually determines the shares of the tax ultimately paid by consumers and by producers?

2. [2 points] If the price of an inferior good increases, explain how we should expect the quantity demanded to change (increase or decrease) due to the income effect.

3. The director of the Springfield Natural History Museum is considering renovating the museum to make it less susceptible to earthquake damage. The director believes that there is a 15% chance that the museum will experience an earthquake, and that such an earthquake would cause $20 million in damage to the museum if it is not renovated. If the museum is renovated, an earthquake would cause no damage. Renovating the museum would cost $2.5 million and would have no benefits other than providing earthquake protection. [Note: Remember that the monetary amounts discussed here are losses, not gains, so smaller amounts are better than larger amounts.]
   1. [2 points] What is the expected value of the loss from earthquake damage if the museum is not renovated?

2. [4 points] What can we say about whether or not the museum director should renovate the museum if they are risk-averse? If they are risk-loving?

Answer 1

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Question:

Answer:

Tax:

A tax is a compulsory financial charge or some other type of levy imposed upon a taxpayer by a governmental organization in order to fund government spending or in simple word we can say that tax is money that people have to pay to the government Like, income tax, corporate tax, wealth tax, GST, property tax etc.There are two type of tax: Direct and Indirect Tax. Direct tax is A direct tax is borne entirely by the entity that pays it like income tax, property tax etc. and indirect tax is born by the consumers not the by the entity that pays it like GST.

Incidence of the Tax:

Incidence rests on the person who pays it eventually or tax amount is not entirely bear by ann individuality on whom the tax is levied. It is depend upon the demand and supply of the the goods on which the tax is levied.

Now come on the question:

Briefly explain why the legal assignment of the tax does not determine the real incidence of the tax. For example, if the government collects the tax entirely from producers (it does not collect any taxes from consumers), how do consumers end up bearing part of the burden of the tax?

We know there are number of number of taxes that is Levy on the individual and companies or consumers and producer. Tax is the biggest source of income for the government. Every government levy tax on its citizen and corporation or companies. Every government has own process and method of taxation.

Now understand this situation through the example. We have seen above Incidence rests on the person who pays it eventually or tax amount is not entirely bear by an individuality on whom the tax is levied. It is depend upon the demand and supply of the the goods on which the tax is levied. Suppose a government levies the tax on cigarette. Cigarette is inelastic in nature so, price will affect the consuming level of the smoker so, in this case the producers will increased the price of cigarette by the same level. Now the tax that is imposed on the producer is actually collecting by the consumer. But if the demand is elastic of the product on which tax is levy then the percentage of transfer amount of tax through the increasing price level will be low.

What actually determines the shares of the tax ultimately paid by consumers and by producers?

We have seen above in the definition of incidence of tax that Incidence rests on the person who pays it eventually or tax amount is not entirely bear by ann individuality on whom the tax is levied. It is depend upon the demand and supply of the the goods on which the tax is levied. So, price elasticity of demand and supply will decide the shares of the tax ultimately paid by consumers and by producers. If the price elasticity of demand is inelastic then the whole amount will be beard by the consumer and if, price elasticity of demand is greater than 1 then maximum portion of tax will be beard by the producer, if, price elasticity of demand is less than 1 then maximum portion of tax will be beard by consumer etc.

If the price of an inferior good increases, explain how we should expect the quantity demanded to change (increase or decrease) due to the income effect.

Inferior Goods: An inferior good is a good whose demand decreases when consumer income rises unlike normal goods like, If the income level is increased then people prefer to drive luxury car instead of baby/cheaper car. Here, cheaper car is an example of an inferior good.

When price of an inferior good fall, its negative income effect will reduced the quantity purchased. Thus even in most cases of inferior goods the net result of the fall in price will be increase in its quantity demanded. When price of an inferior good increased, its negative income effect will reduced the quantity purchased. Thus even in most cases of inferior goods the net result of the increase in price will be decrease crease in its quantity demanded.

What is the expected value of the loss from earthquake damage if the museum is not renovated?

An earthquake would cause $20 million in damage to the museum if it is not renovated.

What can we say about whether or not the museum director should renovate the museum if they are risk-averse? If they are risk-loving?

Risk-averse people are disinclined or reluctant to take risks person who prefer protection rather than higher return or benefits.They the preservation of capital/assets over the potential for a high return. Other hand Risk lover is a person who is willing to take more risks.

So, if the museum director is a risk-averse people then he should renovate the museum and if he is a Risk lover then should not renovate the museum.

Thank You