Question

The government has decided to increase the basic business tax of all firms by 5%. Once again, you are hired as a consultant to a firm, but this firm cannot pass along the cost of the tax increase to its customers by way of a price increase of its product because most customers will significantly reduce their purchases.

Based on what you have learned in your study of microeconomics:

   A. Set forth and describe 2 general courses of action (that could be applied to any firm) you
      believe would be helpful to the firm in cutting costs to help absorb the tax increase and not
       suffer any net losses.

Answer 1

Introduction:-

All firms and companies in an economy are widely affected, by conditions which the government sets in place for each one of them respectively. Any government to deal with situation of inflation or recession takes key policy decisions which help the economy at being stable from any shocks that may arise.

During times of inflation particularly is when the above case study comes into light. In a tough economic situation wherein the inflation is rising and so are the prices of products, governments usually increase the tax rates or the overall interest rates in the country? There could also be other reasons for this exercise but all are generally aimed at increasing the income of the government.

Case Specifics:-

In a price sensitive situation when prices of products cannot be kept high, owing to the fact that the company operates in conditions wherein competition is high or has a similar strategy which do not permit increasing prices of products, the company has the following options to follow.

• Layovers

Layovers or firing people who are not productive or take relatively higher salaries can help the company by undertaking means that reduce its overall financial burden thus the impacts of a high tax rate can be minimalized.

Usually companies that face such challenges tend to look inward and realize that they have some resources that may not be required. Thus the situation allows for some people to be shown the pink slip and leads to better management.

• Reducing Costs by Increasing Production

Another strategy option available for the firm is that they increase the overall production of goods which they manufacture thus reducing the per unit costs. Usually increased production capacity means that a firm can enhance its capability to negotiate with vendors that supply raw materials and thus produce cheaper and sell at similar price levels. It is a well-known fact that increased production reduces the per unit cost of the product which can be effective.

• Expanding Business

Another similar strategy is to expand business into areas where tax rates can be relatively lower. This could include international investment or exports and widely helps business owners from being shielded from local shocks that may happen in an economy.

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