![]() ![]() They rarely find that the excess burden is less than 25 percent of total expenditure. Numerous studies have estimated the excess burden associated with raising an additional dollar from the tax system. The reason is that notions of consumer and producer surpluses are not well understood by non-economists, despite the fact that the value of lost surpluses is frequently large. In public policy debates, this excess burden is rarely discussed. Therefore, the loss associated with the tax is the area A. Thus, if output could be increased from to, a surplus of value over cost would be realized on every additional unit equal to the vertical distance between the demand and supply functions D and S. But the potential surplus ( ) associated with producing an additional unit cannot be realized, because the tax dictates that the production equilibrium is at rather than any higher output. At the output, the value placed by consumers on the last unit supplied is ( ), while the production cost of that last unit is (=A). The intuition behind this concept is not difficult. The excess burden, or deadweight loss, of a tax is the component of consumer and producer surpluses forming a net loss to the whole economy. It is also called the deadweight loss, DWL. This component is called the excess burden, for the reason that it represents the component of the economic surplus that is not transferred to the government in the form of tax revenue. However, there remains a part of the surplus loss that is not transferred, the triangular area A. Ultimately, the citizens should benefit from this revenue when it is used by the government, and it is therefore not considered to be a net loss of surplus. Nonetheless, the government has additional revenues amounting to A, and this tax imposition therefore represents a transfer from the consumers and suppliers in the marketplace to the government. Consumers and suppliers have therefore seen a reduction in their well-being that is measured by these dollar amounts. By the same reasoning, supplier surplus is reduced by the amount A prior to the tax it was. This is the reduction in the pre-tax surplus given by the triangle B. The effect of the tax has been to reduce consumer surplus by. The concepts of consumer and producer surpluses help us comprehend this. The second burden of the tax is called the excess burden. The revenue burden is the amount of tax revenue raised by a tax. As illustrated in Chapter 4, the degree to which the market price P t rises above the no-tax price P 0 depends on the supply and demand elasticities.Ī tax wedge is the difference between the consumer and producer prices. On each of the Q t units sold, the government receives the amount. The first is the revenue burden, the amount of tax revenue paid by the market participants and received by the government. There are two burdens associated with this tax. ![]() The price received by the supplier is lower than that paid by the buyer by the amount of the tax wedge. The new equilibrium is E t, and the new market price is at P t. A tax wedge is therefore imposed between the price the consumer must pay and the price that the supplier receives. In the absence of taxes, the equilibrium E 0 is defined by the combination ( P 0, Q 0).Ī 13-percent tax is now imposed, and the new supply curve S t lies 13 percent above the no-tax supply S. Excess burden = deadweight loss = A E t E 0.įigure 5.4 illustrates the supply and demand curves for some commodity. Since the tax keeps output at this lower level, the economy cannot take advantage of the additional potential surplus between Q t and Q 0. At Q t the demand value placed on an additional unit exceeds the supply valuation by E tA. The tax shifts S to S t and reduces the quantity traded from Q 0 to Q t. Note that this is a percentage, or ad valorem, tax, not a specific tax of so many dollars per unit traded. In some provinces these two taxes are harmonized. These taxes combined vary by province, but we suppose that a typical rate is 13 percent. We begin with the simplest of cases: The federal government's goods and services tax (GST) or the provincial governments' sales taxes (PST). ![]() In this section we will show how an understanding of two fundamental tools of analysis – elasticities and economic surplus – provides powerful insights into the field of taxation. \)ĭespite enormous public interest in taxation and its impact on the economy, it is one of the least understood areas of public policy.
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