Question

1. Suppose Kifwong is a small economy with only five people and two income tax rates. The first $4,000 earned each month are taxed 30%. Anything earned over $4,000 each month is taxed 45%. Anyone who is not working receives unemployment benefits of $2,500, paid for by the government. The table below shows the income for the five people at two different time periods. (5 pts.)

Person	Salary in Period 1	Salary in Period 2
Billy	$0	$3,000
Phillip	$3,500	$3,780
Turanga	$4,000	$4,320
Amy	$4,417	$4,770
Hubert	$5,000	$5,400
Total	$16,917	$21,270

1. Calculate the total tax revenue during the first period

2. Calculate the total tax revenue when the economy during the second period

3. Excluding Billy’s income, what is the percent change between total income in the first period and total income in the second period?

4. Briefly explain how the taxes act as an automatic stabilizer as the income increases from the first period to the second perio

5. Briefly explain how the fact that Billy earned a job in the second period acts as an automatic stabilizer.

Answer 1

q1) Tax collection from an individual with income x is given by: a) 0 if x=0 (b) 0.3x if 0< x <= 4000 (c) 0.3x + 0.45(x-4000) if x>4000

Thus, total tax collection in first period =

(0.3*3500) + (0.3*4000) + (0.3*4000 + 0.45*(4417-4000)) + (0.3*4000 + 0.45*(5000-4000))

= 5287.65

q2) total tax collection in second period =

(0.3*3000) + (0.3*3780) + (0.3*4000 + 0.45*(4320-4000)) + (0.3*4000 + 0.45*(4770-4000)) + (0.3*4000 + 0.45*(5400-4000))

= 6754.5

q3) Total first period income (billy is automatically excluded) = 16917

Total first period income (excluding billy) = 21270 - 3000 = 18270

% change =( ( y in period 2 - y in period 1)/ (y in period 1)) * 100 = ( 18270 - 16917 / 16917)*100 = 8.35%

q4) As the income increases from the first perod to second, the tax revenues have also incraesed. Thus, if the conomy is in a boom, progressive axes act as a good way to keep it in check by increasing compulasaty payments to givernment and thus acts as automatic stabilizers.