Kinh tế học vĩ mô - Chapter 7: Taxation and government intervention

Taxation and Government InterventionChapter 7Laugher CurveTwo economists meet on the street.Q. How’s your wife?A. Relative to what?Taxation and GovernmentGovernment needs tax revenues to function.How Much Should Government Tax?In order to answer how much government should tax, we must know the costs and benefits of taxation.The benefits result from the roles of government.How Much Should Government Tax?From previous chapters we know that government’s roles include:Providing a stable set of institutions and rules.Promoting effective and workable competition.Correcting for externalities.How Much Should Government Tax?From previous chapters we know that government’s roles include:Creating an environment that fosters economic stability and growth.Providing public goods.Adjusting for undesirable market results.The Costs of TaxationThe costs of taxation include:The direct cost of the revenue paid to governmentThe loss of consumer and producer surplus caused by the taxThe administrative costs of collecting the tax.The Costs of TaxationWhen government raises taxes, there is a loss of consumer and producer surplus that is not gained by government.This is known as deadweight loss.The Costs of TaxationGraphically the deadweight loss is shown on a supply-demand curve as the welfare loss triangle.The welfare loss triangle – a geometric representation of the welfare loss in terms of misallocated resources caused by a deviation from a supply-demand equilibrium.The Costs of Taxation Fig. 7-2, p 162S1= S0+tP1–tQuantityPriceP0Q0P1Q1Producer surplusS0DemandConsumer surplusDeadweight losstaxAFCEBDThe Costs of TaxationThere are additional costs of taxation.Resources must be allocated by government to collect the tax and by individuals to comply with it.The Benefits of TaxationThe benefits of taxation are the goods and services that government provides.The Benefits of TaxationSome of these benefits are the part of the basic institutional structure of a market economy that allows it to function efficiently.The basic legal system is an example.The Benefits of TaxationOther goods have the qualities of a public good – fire and police services are examples.The Benefits of TaxationSome benefits are provided for reasons of equity or because they provide positive externalities. For example, education and healthcare.The Benefits of TaxationMeasuring the benefits of these goods is difficult since they are often provided at a zero price.Two Principles of TaxationGovernment follows two general principles when deciding about taxationThe benefit principle and The ability-to-pay principleTwo Principles of TaxationThe benefit principle states that the individuals who receive the benefit of the good or service should pay the cost (opportunity cost) of the resources used to produce the good.Examples are gasoline taxes and airport taxes, both paid by travelers.Two Principles of TaxationThe ability-to-pay principle states that individuals who are most able to bear the burden of the tax should pay the tax.The best example of this is a progressive tax, such as the Canadian income tax.Difficulty of Applying the Principles of TaxationThe principles of taxation are difficult to apply.The two principles often conflict.Difficulty of Applying the Principles of TaxationThe elasticity concept helps provide insight into the taxation debates.The more broadly the good or service is defined, the more inelastic its demand.Difficulty of Applying the Principles of TaxationGovernments should tax inelastic goods or services – those are captured by broad based taxes such as income and sales tax.Difficulty in Applying the Principles of TaxationIn the language of consumer and producer surplus, if the government seeks to minimize the welfare loss, it should tax goods with inelastic supplies and demands.Who Bears the Burden of a Tax?The person who physically pays the tax is not necessarily the person who bears the burden of the tax.The burden of the tax depends on relative elasticity.Burden Depends on Relative ElasticityThe tax burden is greater if a person cannot easily change their behaviour.The more inelastic one’s relative supply and demand, the larger the tax burden one will bear.Burden Depends on Relative ElasticityIf demand is more inelastic than supply, consumers will pay the higher share. If supply is more inelastic than demand, suppliers will pay the higher share.Who Bears the Burden of a Tax? Fig. 7-3a, p 166Supplier Pays Tax$70,00060,00050,00040,00030,00020,00010,000Quantity of luxury boats 600200400S1DemandS0510taxConsumer paysSupplier paysPriceWho Bears the Burden of a Tax? Fig. 7-3b, p 166590 $70,00060,00050,00040,00030,00020,00010,000Quantity of luxury boats S1S0Demand is inelasticDemandConsumer paysSupplier paysPriceWho Bears the Burden of a Tax? Fig. 7-3c, p 166Consumer Pays Tax$70,00060,00050,00040,00030,00020,00010,000Quantity of luxury boats 600200400D0S0510taxConsumer paysSupplier paysD1PriceTax Incidence and Current Policy DebatesThe analysis of tax incidence is helpful when discussing current policy debates.Employment Insurance PremiumsBoth employer and employee contribute to the Employment Insurance.The burden falls mainly on employees because, on average, labour supply is less elastic than labour demand.Burden of the Employment Insurance Premium, Fig. 7-4, p 168WageLabourL1w0wLSD0D1= D0-twFL2Sales TaxesSales taxes are those paid by retailers on the basis of their sales revenue.Since sales taxes are broadly defined, most consumers have little ability to substitute.Demand is inelastic so consumers bear the greater burden of the tax.Sales TaxesSome Canadians can substitute away from consumption in Canada by traveling abroad.With the growth of the Internet, many more are now able to access tax-free jurisdictions (cyberspace) and also substitute away from Canadian consumption taxes.Government InterventionTaxation is but one way in which government affects our lives.Other forms of government intervention include price controls.Price CeilingA price ceiling is a government-set maximum price which the market price cannot exceed. Generally, the price ceiling is set below market equilibrium price.It is an implicit tax on producers and an implicit subsidy to consumers. Price CeilingPrice ceiling causes a loss in producer and consumer surpluses that is identical to the welfare loss from taxation.Effect of Price Ceiling, Fig. 7-5a, p 170QuantityPriceP0Q0Q1SupplyDemandProducer surplusConsumer surplusDeadweight lossP1Price ceilingABECFDExcess demandPrice FloorsA price floor is a government-set minimum price.Price floors transfer surplus from consumers to producers.They can be seen as a tax on consumers and a subsidy to producers.Effect of Price Floor, Fig. 7-5b, p 170QuantityPriceP0Q0Q1SupplyDemandProducer surplusP2Price FloorConsumer surplusDeadweight lossABCEDFExcess supplyThe Difference Between Taxes and Price ControlsThe effects of taxation and price controls are similar.Both taxes and price controls create deadweight losses.The Difference Between Taxes and Price ControlsHowever, price ceilings create shortages and taxes do not. Shortages may create black markets.Alternative methods of allocation develop because there is an imbalance between quantity demanded and quantity supplied.Rent Seeking, Politics, and ElasticitiesPrice controls reduce total producer and consumer surpluses.Governments institute them because people care more about their own surplus than they do about total surplus.Rent Seeking, Politics, and ElasticitiesIf consumers hold the balance of political power, there will be strong pressures to create price ceilings.If suppliers hold the political power, there will be strong pressures to create price floors.This activity is called rent seeking. Rent Seeking, Politics, and ElasticitiesAn enormous amount of time and resources is spent in attempts to transfer surplus from one set of individuals to another.They argue that often the taxes and the benefits of government programs offset each other and do not help society significantly.Rent Seeking, Politics, and ElasticitiesPublic choice economists integrate an economic analysis of politics with their analysis of the economy.Inelastic Demand and Incentives to Restrict SupplyWhen demand is inelastic, producers have incentives to lobby the government to restrict supply.Farming is a good example.Advances in productivity increase supply but they result in lower prices.Inelastic Demand and Incentives to Restrict SupplySince food has few substitutes, its demand is inelastic.Inelastic demand means that prices fall faster than a rise in quantity sold.Revenues fall, and farmers are worse off.Inelastic Demand and Incentives to Restrict SupplyBecause of the increase in supply, and inelastic demand, farmers are losing revenue.There is an enormous incentive for farmers to encourage government to restrict supply or create a price floor.Inelastic Demand and Incentives to Restrict Supply Fig. 7-6, p 171S0P1Q1P0Q0DemandS1QuantityPriceABThe Long-Run Problems of Price ControlsIn the long run, supply and demand tend to be much more elastic than in the short run.Therefore, price controls will cause large shortages or surpluses in the long run.Long-Run and Short-Run Effects of Price Controls, Fig. 7-7, p 172P0Q0QuantityP1Q1P2Q2Q3Short run supplyD0PriceLong run supplyD1Price ceilingShortageTaxation and Government InterventionEnd of Chapter 7