Question

Suppose that by coincidence two markets for separate products had the same demand and supply functions. In each market, Qd60 p, and The .sQpgovernment decides to discourage consumption in both markets. It institutes an $8 per-unit tax in one market and a quota of 25 units in the other market. Are the welfare effects of these policies equal? (Solve by calculating the dead-weight-loss under both scenarios.)

Answer 1

Suppose that by coincidence two markets for separate products had the same demand and supply functions. In each market, Qd = 60 - p, and Qs = p.

Equilibrium in both markets occurs at:

60 - p = p

p = 30, q = 30

Hence currently, price prevailing in both the markets is $30 and quantity produced is also 30 units.

The government decides to discourage consumption in both markets. It institutes a $4 per-unit tax in one market

This shifts the demand to the left

60 - (P - 8) = P

68 = 2P

P(buyers) = 34, P(sellers) = 26

q = 26

The tax reduces the price received by the sellers, increases the price paid by buyers and create a deadweight loss.

A quota of 25 units in the other market implies a price received by sellers and paid by buyers equal to 60 - 25 = $35. The welfare effects are different.

PS in case of tax is = 0.5*25*26 = 325

PS in case of quota = 0.5*26*25 + (34 - 26)*25 = 525. Similarly, there is a difference in consumer surplus. There is quota rent in second case while there is tax revenue equal to $8*25 = $200.