Question

Ad valorem tax and supply curve

Answer 1

Answer

The ad valorem tax is an indirect tax imposed on the goods and based on the value or price of the good or item. It is imposed in percentage terms, and therefore higher the value of the goods, higher is the ad valorem tax.The progressivity of ad valorem tax makes it more attractive than the specific tax, in which the tax rate is fixed per unit of output or goods and services sold, irrespective of who is paying it. In case of specific tax, the price rises by exactly the amount of tax imposed on per unit. In case of ad valorem tax, as it is levied in percentage terms and based on the value of the assets or the goods,so the owner with higher the value of the asset or goods, pay higher taxes.

The ad valorem tax shifts the supply curve to the left as a percentage of the tax on the valued item.So the slope of the supply curve (dp/dq, where dp is the change in price,and dq is the change in quantity) changes.

dp/dq changes, as dp changes by the percentage of the ad valorem tax.

Figure-1

In figure-1, on the horizontal axis, we are measuring quantity of goods, and on the vertical axis, we are measuring the price or the value of the goods.SS is the supply curve before the ad valorem tax. S₁S₁ is the supply curve after the ad valorem tax.The difference between the two supply curves is the amount P+percentage of ad valorem tax. As the value or the price of the goods rises, the amount paid on that goods rises. Therefore the gap between the supply curve rises.

Figure-2

In Figure-2, on the horizontal axis, we are measuring quantity of goods, and on the vertical axis, we are measuring the price or the value of the goods.SS is the supply old curve, and DD is the demand curve. The DD curve remains unchanged, but after the tax, the supply curve shifts left to S₁S₁ by the percentage of tax. As a result the equilibrium price rises from P₁ to P₂ and the equilibrium quantity decreases from Q₁ to Q₂.

________________________________________________________________.