Question

What is a deadweight loss? 

What is tax incidence? 

What is the impact of a tax imposed on a commodity when demand is inelastic and supply is elastic? Who bares the burden of the tax - consumers and/or producers? 

Explain the relevance of a Laffer curve and supply side economics?

Answer 1

Deadweight loss arises when less than the efficient quantity is sold in the market. It happens when actual price is not equal to the equilibrium price. Therefore there will be either surplus or shortage of goods.

The tax incidence means how the burden of tax is shared among buyers and sellers.

The incidence of an excise tax is the rate which measure of who really bears the burden of the tax. Irrespective of on whom tax is imposed, tax burden will be shared by both sellers and buyers.

The burden of tax falls more on the inelastic side, so if demand is relatively inelastic, then burden of tax falls more on buyers while burden of tax will be less on the sellers and vice-versa.

Laffer curve can be defined as a curve which shows the relationship between tax rates and the amount of tax revenue collected by governments. The curve is used to describe Laffer's argument that sometimes cutting tax rates can increase total tax revenue.

Supply-side fiscal policy can be defined that policy whose aim is to improve economic growth and create jobs is by increasing the production of goods and services. This is also known as the trickle-down effect. In this taxes are lowered and government removes barriers to investment.

When government reduces regulations on business, then it means government promote production of goods and services, so the aggregate supply increase in this case. Hence this is an example of supply side fiscal policy.