Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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Transcribed Image Text:6. Graphical treatment of taxes and fiscal policy
The main difference between variable taxes and fixed taxes is that unlike variable taxes, fixed taxes do not vary with GDP
The following graph shows the consumption schedule for an economy with a given level of taxes. Suppose the government implements a tax
increase through a variable tax.
Use two green points (triangle symbol) to connect the two black points (plus symbols) representing the consumption schedule after the change in
taxes.
Hint: The new consumption schedule must pass through one point on the left and one point on the right.
8
8
REAL CONSUMER SPENDING (Billions of dollars)
8
9
+ + + O + + +
20
40
60
REAL GDP (Billions of dollars)
80
+
O
+
100
Consumption with Tax Increase through a Variable Tax
Consumption with Tax Increase through a Fixed Tax
The blue line on the next graph represents the original total expenditure line for this economy before the change in tax structure.

Transcribed Image Text:Use the new consumption line you just plotted to calculate the new total expenditure at two levels of real GDP and fill in the following table.
GDP level
Total Expenditure
(Billions of dollars) (Billions of dollars)
10
90
85
Use the green points (triangle symbols) to draw the new total expenditure line on this graph given the tax increase through a variable
tax previously discussed and subsequent changes in the consumption schedule shown on the preceding graph.
100
45-degree line
✓=
REAL GDP (Billions of dollars)
a variable tax
a fixed tax
Suppose that the government also considered a fixed tax hike and that the resulting consumption schedule would have also passed through one black
point (plus symbols) on the left and one black point on the right on the first graph (though not necessarily the same points as the consumption
schedule resulting from the tax increase through a variable tax).
On the first graph, use two purple points (diamond symbol) to connect the two black points (plus symbols) representing the consumption schedule
that would result from a tax increase through a fixed tax. (Hint: As before, the consumption schedule must pass through one point on the left and
one point on the right.)
On the second graph, use the purple points (diamond symbols) to draw the total expenditure line that would result from a tax increase through a fixed
tax indicated on the top graph.
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