Question

In: Economics

a) Assume a tax of 2 $ per unit is imposed on buyers. Show the impact...

a) Assume a tax of 2 $ per unit is imposed on buyers. Show the impact of the tax on buyers, sellers, and economic efficiency. Carefully label your graph. Other things being equal, will a tax on sellers produce a better outcome? Will it change the burden of the tax? Explain.

b) Accounting professors earn more than Literature professors at most universities. What might be the reasons (use the supply and demand model)?

Solutions

Expert Solution

a) As per the Law of Demand, ceteris paribus( when other things remain constant ), when the price of a good increases its demand will decrease and when the buyers have to pay tax on the goods it increases the price they have to pay for their purchase thus reducing their purchasing power and demand. When tax is imposed on the buyer the demand curve shifts to the left reflecting the contraction of demand. The buyers are no longer able to fully satisfy their demands due to the imposition of tax.

Imposing tax on the buyer or seller has the same effect on price and quantity.Tax causes consumer and producer surplus to fall. Some of those losses are captured as tax revenue of the government but there are losses which are not captured by any party - the units which could have been traded had there been no tax, resulting in deadweight loss for the society. Dead weight loss is important as it represents the loss to the society, it reflects resources which are wasted as it cannot be utilized for any economic purpose due to contracted demand and supply resulting from the imposition of tax. When tax is imposed either on buyers or sellers it impacts the quantity of goods traded and the price and some resources gets transferred to the government in the form of tax revenue the rest remain idol and gets wasted as it is not utilized.

Tax on sellers will not produce a better outcome. When tax is imposed on the sellers they transfer the burden of tax on the buyers by increasing the price of the goods. But this may not be always the case. The transfer of tax burden depends on the elasticity of demand, if the demand for the good is inelastic then the sellers ideally transfer the tax burden to the buyers but when the demand for the goods is elastic the transfer of tax burden will not be as smooth as in the case of inelastic demand as the demand will be influenced within the increase in the price. Higher the elasticity the more difficult it is for the sellers to transfer the tax burden to the buyers and they will have to bear burden of the tax in either case the quantity of goods traded and the price either to the buyers or the cost to the sellers will be affected. When sellers bear the tax burden they will no longer supply the goods at the rate at which they were supplying before as their cost increases and it no longer be feasible for them supplying the original quantity bearing the tax burden.

Here the output contracts to q2 from q1.  The supply and demand contract and shift away from the equilibrium level. The production capacity is not fully utilized at this level. Consumers demand are not fully met at this level. The price increase to 12 Dollars from the equilibrium price. The government earns tax revenue but there is also deadweight loss resulting from tax where nobody gains anything resulting in the waste of resources and a loss to the society. It does not matter on whom the tax is imposed it impacts the demand and supply and the prices and results in a deadweight loss to the society. The only factor positively impacted by tax is government revenue.

b) As per the demand and supply model when the demand exceeds the supply it results in increase in the market price and when supply exceeds the demand it results in decrease in the. The reason why the Accounts Professor is paid more then the Literature Professor as per this model is because the demand for Accounts Professor exceeds the supply whereas the same may not be the case for Literature professor where the demand and supply may be either to equal each other or the supply may exceed the demand.


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