Answered: Question 2 Table 1 Demand, supply and…

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

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need help with question 2 (a) Draw the demand and supply curves from the data in Table 1. (b) What is the equilibrium quantity demanded and supplied? The government now imposes a specinc tax of £3 per unit. (c) Show the effect of this on the diogram (d) Whot is the new equilibrium quantity demanded and supplied? (e) What is the new equilibrium price?' (f What is the incidence of tax per unit on i) the consumer and (i) the producer? (g) What is (1) the tax per unit and (i) total government revenue from the tox? (h) By how much will the before tox revenue or producers changer

Unit 14
The incidence of tax
Price theory can be used to analyse the impact of the imposition
of an indirect tax on a good. Assume that a specific tax of £1
per bottle is imposed upon wine. This has the effect of reducing
supply. Sellers of wine will now want to charge £1 extra per
bottle sold. In Figure 1, this is shown by a vertical shift of £1 in
the supply curve at every level of output. However many bottles
are produced, sellers will want to charge £1 more per bottle and
therefore there is a parallel shift upwards and to the left of the
whole supply curve from S, to S₂
The old equilibrium price was £3.30, at which price 60
million bottles were bought and sold. The introduction of the
£1 tax will raise price and reduce quantity demanded. The new
equilibrium price is £4, at which price quantity demanded falls to
40 million bottles.
This result might seem surprising. The imposition of a £1
per bottle tax has only raised the price of a bottle by 70p and
not the full £1 of the tax. This is because the incidence of tax
is unlikely to fall totally on consumers. The incidence of tax
measures the burden of tax upon the taxpayer. In this case the
consumer has paid 70p of the tax. Therefore the other 30p
which the government receives must have been paid
by producers.
82
Question 2
Table 1 Demand, supply and tax
Price
m
(E)
4
6
=
8
10
12
12
Quantity
demanded
16
12
2
8
4
0
Quantity
supplied
4
6
8
CHAR
10
12
(a) Draw the demand and supply curves from the data in Table 1.
(b) What is the equilibrium quantity demanded and supplied?
The government now imposes a specific tax of £3 per unit
(c) Show the effect of this on the diogram.
(d) What is the new equilibrium quantity demanded and supplied?
(e) What is the new equilibrium price?
(f) What is the incidence of tax per unit on (1) the consumer and
(i) the producer?
(g) What is (i) the tax per unit and (ii) total government revenue
from the tax?
(h) By how much will the before tax revenue of producers change?
Ainthe Tip
Drow your diogrom so that it is at least half a side of M. It will help
you get the right information on the diogrom. It also helps
examiners see that you have the right answers.
Figure 2
The incidence of an ad volorem tax
The imposition of on od valorem tax will push the supply curve
upwords from S, to Sp. The following gives the key facts about
the change:
(a) original equilibrium price and quantity OG and OB;
(b) new equilibrium price and quantity Of and OA;
(c) incidence of tax per unit on consumers, GF;
(d) incidence of tax per unit on producers, HG;
(e) tax per unit in equilibrium, HF;
(total tax paid by consumers, GKEF;
(g) total tax paid by producers, GHJK:
(h) total tax revenue of goverment, FHOE;
( change in producers' revenue, OBCG-OAJH;
change in consumers' expenditure, CBCG-QAEF.
G
H
TC
Quantity
Tax revenues
Using Figure 1 we can also show the change in total
expenditure before and after imposition of the tax as well as
the amount of tax revenue gained by the government. The
government will receive total tax revenue of £1 x 40 million
(the tax per unit x the quantity sold); hence tax revenues will be
£40 million. Consumers will pay 70p x 40 million of this, whilst
producers will pay 30p x 40 million. Consumers will therefore
pay £28 million of tax whilst producers will pay £12 million.
Total spending on wine will fall from £198 million (£3.30 x 60
million) to £160 million (£4 x 40 million). Revenues received
by producers will fall from £198 million (£3.30 x 60 million) to
£120 million (E3 x 40 million).
Ad valorem taxes
The above analysis can be extended to deal with ad valorem
taxes. The imposition of an ad valorem tax will lead to an
upwards shift in the supply curve. However, the higher the price.
the greater will be the amount of the tax. Hence the shift will
look as in Figure 2. Consumers will pay FG tax per unit whilst
the incidence of tax on producers per unit will be HG.
Subsidies
A subsidy on a good will lead to an increase in supply. At any
given quantity supplied, the price will be lower. This is because

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