Question

In each of the following cases involving taxes, explain: (i) whether the incidence of the tax falls more heavily on consumers or producers, (ii) why government revenue raised from the tax is not a good indicator of the true cost of the tax, and (iii) how deadweight loss arises as a result of the tax. a. The government imposes an excise tax on the sale of all college textbooks. Before the tax was imposed, 1 million textbooks were sold every year at a price of \$50. After the tax is imposed, 600,000 books are sold yearly; students pay \(\$ 55\) per book, \(\$ 30\) of which publishers receive. b. The government imposes an excise tax on the sale of all airline tickets. Before the tax was imposed, 3 million airline tickets were sold every year at a price of \(\$ 500\). After the tax is imposed, 1.5 million tickets are sold yearly; travelers pay \(\$ 550\) per ticket, \(\$ 450\) of which the airlines receive. c. The government imposes an excise tax on the sale of all toothbrushes. Before the tax, 2 million toothbrushes were sold every year at a price of $\$ 1.50$. After the tax is imposed, 800,000 toothbrushes are sold every year; consumers pay \(\$ 2\) per toothbrush, \(\$ 1.25\) of which producers receive.

Short answer

Explain how deadweight loss arises in each case. Answer: In the case of college textbooks, the incidence of the excise tax falls more heavily on producers (publishers). For airline tickets, the tax burden is equally distributed between consumers and producers. In the case of toothbrushes, the tax burden falls more heavily on consumers. Deadweight loss arises in each case due to the reduction in the quantity of goods sold, leading to losses in consumer surplus and producer surplus.

Step-by-step solution

Identify the tax amount and change in price and quantity

Before the tax, 1 million textbooks were sold at a price of \(50. After the tax is imposed, 600,000 books are sold yearly; students pay \)55 per book, \(30 of which publishers receive. So the tax amount is \)55 - \(30 = \)25.

Determine the incidence of the tax

Since the price for the students increased by \(5, and the publishers receive \)20 less per textbook, the burden falls more heavily on the producers (publishers).

Government revenue vs. true cost

The revenue from the tax is 600,000 * \(25 = \)15,000,000. However, this is not a good indicator of the true cost because it does not account for the reduction in the number of textbooks sold and the lost consumer and producer surplus.

Deadweight loss

Deadweight loss arises due to the reduction in the quantity of textbooks sold which leads to a loss in consumer surplus and producer surplus. In this case, the deadweight loss is associated with the 400,000 textbooks that are no longer sold because of the tax. #Case b: Airline tickets#

Identify the tax amount and change in price and quantity

Before the tax, 3 million airline tickets were sold yearly at a price of \(500. After the tax, 1.5 million tickets are sold yearly, with travelers paying \)550 per ticket, and airlines receiving \(450. The tax amount is \)550 - \(450 = \)100.

Determine the incidence of the tax

The price for travelers increased by \(50, and the airlines receive \)50 less per ticket. The burden of the tax is equally distributed between consumers and producers in this case.

Government revenue vs. true cost

The revenue from the tax is 1.5 million * \(100 = \)150,000,000. However, as with the textbooks case, this does not account for the reduction in the number of airline tickets sold and the lost consumer and producer surplus.

Deadweight loss

Deadweight loss arises due to the reduction in the quantity of airline tickets sold, leading to a loss in consumer surplus and producer surplus. In this case, the deadweight loss is associated with the 1.5 million airline tickets that are no longer sold due to the tax. #Case c: Toothbrushes#

Identify the tax amount and change in price and quantity

Before the tax, 2 million toothbrushes were sold yearly at a price of \(1.50. After the tax, 800,000 toothbrushes are sold yearly, with consumers paying \)2, and producers receiving \(1.25. The tax amount is \)2 - \(1.25 = \)0.75.

Determine the incidence of the tax

The price for consumers increased by \(0.50, and producers receive \)0.25 less per toothbrush. The burden of the tax falls more heavily on the consumers in this case.

Government revenue vs. true cost

The revenue from the tax is 800,000 * \(0.75 = \)600,000. Yet again, this does not account for the reduction in the number of toothbrushes sold and the lost consumer and producer surplus.

Deadweight loss

Deadweight loss arises due to the reduction in the quantity of toothbrushes sold which leads to a loss in consumer surplus and producer surplus. In this case, the deadweight loss is associated with the 1.2 million toothbrushes that are no longer sold due to the tax.