Chapter 20 - Taxation and the public budget. In this chapter you will learn: What the major public policy goals of taxation are? How deadweight loss and administrative costs contribute to the inefficiency of a tax? How taxes effect business revenue? What differences exist between proportional, progressive, and regressive taxes?. | Chapter 20 Taxation and the Public Budget © 2014 by McGraw-Hill Education 1 What will you learn in this chapter? • What the major public policy goals of taxation are. • How deadweight loss and administrative costs contribute to the inefficiency of a tax. • How taxes effect business revenue. • What differences exist between proportional, progressive, and regressive taxes. • What sources of tax revenue exist in the United States. • What the public budget is and what relationship exists between revenues and expenditures. © 2014 by McGraw-Hill Education 2 Why tax? • Recall that taxes have two effects: – Raise revenue. – Change the behavior of buyers and sellers. Price S Price paid by consumers Tax Price received by sellers 1. Raises revenue D 1 D 2 Quantity © 2014 by McGraw-Hill Education 2. and changes behavior. • As a tax is levied on consumers, the demand curve shifts down by the amount of the tax. • Raises revenue for the government. • Changes behavior of buyers and sellers. 3 1 Principles of taxation Each tax considered must compare trade-offs between revenue and inefficiency. Price ($) 100 1. Tax creates a new demand curve $20 below 90 2. which moves equilibrium to a lower quantity. 80 S 70 60 • Taxes cause changes in behavior and a deadweight loss to occur. – A $20 tax on jeans shifts the demand curve downward. – Deadweight loss is the loss of total surplus that occurs because the quantity of a good that is bought and sold is below the market equilibrium quantity. – Inefficiency is loss in total surplus. Deadweight loss is surplus lost due to the reduced quantity. 50 40 30 D1 20 10 D2 1 0 2 3 4 5 6 7 Quantity of jeans (millions of pairs) © 2014 by McGraw-Hill Education 4 Principles of taxation The size of deadweight loss is determined by the price elasticity of supply and demand. Original demand DWL = $60 Less elastic demand DWL = $40 58 50 $20 Price S S 62 50 42 More elastic demand DWL = .
