Logout Open In App
Open In App
Warning: foreach() argument must be of type array|object, bool given in /var/www/html/web/app/themes/studypress-core-theme/template-parts/header/mobile-offcanvas.php on line 20

Chapter 7: Problem 12

You are advising the government on how to pay for national defense. There are two proposals for a tax system to fund national defense. Under both proposals, the tax base is an individual's income. Under proposal A, all citizens pay exactly the same lump-sum tax, regardless of income. Under proposal B, individuals with higher incomes pay a greater proportion of their income in taxes. a. Is the tax in proposal A progressive, proportional, or regressive? What about the tax in proposal B? b. Is the tax in proposal A based on the ability-to-pay principle or on the benefits principle? What about the tax in proposal \(\mathrm{B}\) ? c. In terms of efficiency, which tax is better? Explain.

Short Answer

Expert verified
Answer: Proposal A is a regressive tax, based on the benefits principle, and is more efficient than proposal B. Proposal B is a progressive tax, based on the ability-to-pay principle, and is less efficient than proposal A.

Step by step solution

01

a. Tax Types: Proposal A and Proposal B

For proposal A, everyone pays the same lump-sum tax, regardless of their income. This means that lower-income individuals pay a higher proportion of their income in taxes compared to higher-income individuals. Therefore, the tax in proposal A is regressive. On the other hand, proposal B requires higher-income individuals to pay a higher proportion of their income in taxes. This indicates that the tax in proposal B is progressive.
02

b. Tax Principles: Proposal A and Proposal B

Proposal A is based on the benefits principle, as the tax is the same for everyone irrespective of their income. Every individual is assumed to receive the same level of benefits from the government's national defense spending, so they pay the same amount in taxes. In contrast, proposal B is based on the ability-to-pay principle. This principle suggests that people with higher incomes should pay higher taxes because they have a greater ability to pay. Therefore, the tax structure in proposal B reflects this principle by having higher-income individuals pay a greater proportion of their income in taxes.
03

c. Efficiency: Comparing Proposal A vs. Proposal B

In terms of efficiency, we need to consider the impact of the two tax proposals on economic behavior and the overall tax collection process. Proposal A, being a lump-sum tax, does not distort individuals' economic decisions as it does not change with income. Since everyone pays the same amount of tax regardless of income, there is no disincentive to work more or earn additional income. As a result, proposal A can be considered more efficient as it has fewer negative effects on individual incentives and productivity. However, in Proposal B, higher-income individuals face higher tax rates, potentially discouraging them from pursuing additional income. This can lead to a reduction in overall economic activity and may even encourage tax avoidance and evasion. In terms of efficiency, this makes proposal B less efficient than proposal A. In conclusion, while proposal A is regressive and based on the benefits principle, it is generally more efficient compared to the progressive and ability-to-pay based proposal B.

Unlock Step-by-Step Solutions & Ace Your Exams!

  • Full Textbook Solutions

    Get detailed explanations and key concepts

  • Unlimited Al creation

    Al flashcards, explanations, exams and more...

  • Ads-free access

    To over 500 millions flashcards

  • Money-back guarantee

    We refund you if you fail your exam.

Start your free trial

Over 30 million students worldwide already upgrade their learning with Vaia!

One App. One Place for Learning.

All the tools & learning materials you need for study success - in one app.

Get started for free

Most popular questions from this chapter

The U.S. government would like to help the Americar auto industry compete against foreign automaker: that sell trucks in the United States. It can do this by imposing an excise tax on each foreign truck sold in the United States. The hypothetical pre-tax demand anc supply schedules for imported trucks are given in the accompanying table. a. In the absence of government interference, what is the equilibrium price of an imported truck? The equilibrium quantity? Illustrate with a diagram. b. Assume that the government imposes an excise tax of \(\$ 3,000\) per imported truck. Illustrate the effect of this excise tax in your diagram from part a. How many imported trucks are now purchased and at what price? How much does the foreign automaker receive per truck? c. Calculate the government revenue raised by the excise tax in part b. Illustrate it on your diagram. d. How does the excise tax on imported trucks benefit American automakers? Whom does it hurt? How does inefficiency arise from this government policy?

You work for the Council of Economic Advisers, providing economic advice to the White House. The president wants to overhaul the income tax system and asks your advice. Suppose that the current income tax system consists of a proportional tax of \(10 \%\) on all income and that there is one person in the country who earns \(\$ 110\) million; everyone else earns less than \(\$ 100\) million. The president proposes a tax cut targeted at the very rich so that the new tax system would consist of a proportional tax of \(10 \%\) on all income up to \(\$ 100\) million and a marginal tax rate of \(0 \%\) (no tax) on income above \(\$ 100\) million. You are asked to evaluate this tax proposal. a. For incomes of \(\$ 100\) million or less, is this proposed tax system progressive, regressive, or proportional? For incomes of more than \(\$ 100\) million? Explain. b. Would this tax system create more or less tax revenue, other things equal? Is this tax system more or less efficient than the current tax system? Explain.

In the United States, each state government can impose its own excise tax on the sale of cigarettes. Suppose that in the state of North Texarkana, the state government imposes a tax of \(\$ 2.00\) per pack sold within the state. In contrast, the neighboring state of South Texarkana imposes no excise tax on cigarettes. Assume that in both states the pre-tax price of a pack of cigarettes is \(\$ 1.00 .\) Assume that the total cost to a resident of North Texarkana to smuggle a pack of cigarettes from South Texarkana is \(\$ 1.85\) per pack. (This includes the cost of time, gasoline, and so on.) Assume that the supply curve for cigarettes is neither perfectly elastic nor perfectly inelastic.a. Draw a diagram of the supply and demand curves for cigarettes in North Texarkana showing a situation in which it makes economic sense for a North Texarkanan to smuggle a pack of cigarettes from South Texarkana to North Texarkana. Explain your diagram. b. Draw a corresponding diagram showing a situation in which it does not make economic sense for a North Texarkanan to smuggle a pack of cigarettes from South Texarkana to North Texarkana. Explain your diagram. c. Suppose the demand for cigarettes in North Texarkana is perfectly inelastic. How high could the cost of smuggling a pack of cigarettes go until a North Texarkanan no longer found it profitable to smuggle? d. Still assume that demand for cigarettes in North Texarkana is perfectly inelastic and that all smokers in North Texarkana are smuggling their cigarettes at a cost of \(\$ 1.85\) per pack, so no tax is paid. Is there any inefficiency in this situation? If so, how much per pack? Suppose chip- embedded cigarette packaging makes it impossible to smuggle cigarettes across the state border. Is there any inefficiency in this situation? If so, how much per pack?

Each of the following tax proposals has income as the tax base. In each case, calculate the marginal tax rate for each level of income. Then calculate the percentage of income paid in taxes for an individual with a pre-tax income of \(\$ 5,000\) and for an individual with a pre-tax income of \(\$ 40,000 .\) Classify the tax as being proportional, progressive, or regressive. (Hint: You can calculate the marginal tax rate as the percentage of an additional \(\$ 1\) in income that is taxed away.)a. All income is taxed at \(20 \%\). b. All income up to \(\$ 10,000\) is tax-free. All income above \(\$ 10,000\) is taxed at a constant rate of \(20 \%\). c. All income between \(\$ 0\) and \(\$ 10,000\) is taxed at \(10 \%\). All income between \(\$ 10,000\) and \(\$ 20,000\) is taxed at \(20 \%\). All income higher than \(\$ 20,000\) is taxed at \(30 \%\). d. Each individual who earns more than \(\$ 10,000\) pays a lump-sum tax of $\$ 10,000\(. If the individual's income is less than \)\$ 10,000$, that individual pays in taxes exactly what his or her income is. e. Of the four tax policies, which is likely to cause the worst incentive problems? Explain.

In Transylvania the basic income tax system is fairly simple. The first 40,000 sylvers (the official currency of Transylvania) earned each year are free of income tax. Any additional income is taxed at a rate of \(25 \% .\) In addition, every individual pays a social security tax, which is calculated as follows: all income up to 80,000 sylvers is taxed at an additional \(20 \%\), but there is no additional social security tax on income above 80,000 sylvers. a. Calculate the marginal tax rates (including income tax and social security tax) for Transylvanians with the following levels of income: 20,000 sylvers, 40,000 sylvers, and 80,000 sylvers. (Hint: You can calculate the marginal tax rate as the percentage of an additional 1 sylver in income that is taxed away.) b. Is the income tax in Transylvania progressive, regressive, or proportional? Is the social security tax progressive, regressive, or proportional? c. Which income group's incentives are most adversely affected by the combined income and social security tax systems?
See all solutions

What do you think about this solution?

We value your feedback to improve our textbook solutions.

Study anywhere. Anytime. Across all devices.

Sign-up for free