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Lecture

ECON 1B03 Lecture Notes - Deadweight Loss, Price Elasticity Of Demand, Demand Curve


Department
Economics
Course Code
ECON 1B03
Professor
Hannah Holmes

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Richard Damra Thursday, February 14, 2013
Econ 1B03 Chapter 6&8 Supply, Demand & Government Policies
Chapter 8
The Deadweight Loss of Taxation Ch 8
Note: Taxes, whenever there is per unit sales tax it’s going to decrease the quantity traded in
the market and whenever we are not in market equilibrium there will be deadweight loss.
Since a tax places a burden on consumers and suppliers and reduces the quantity traded in the
market compared to the non-tax equilibrium quantity, we know there will be a deadweight loss.
The government’s tax revenues are a benefit for them and a benefit for the recipients when the
government spends that revenue on social programs.
But ultimately, consumers and producers lose out.
Changes in Welfare
A tax on a good reduces consumer surplus and producer surplus
On the following diagram, total surplus is the area of ABC
CS and PS Before the Tax
A tax reduces the quantity traded, increases the price consumers pay and decreases the price
suppliers receive.
The new CS is Triangle A on the following diagram
The new PS is Triangle F.
The tax revenue is the sum of rectangle B (Lost CS) and rectangle D (Lost PS)
CS and PS After the Tax
C and E are dead weight loss
A and F are consumer/producers surplus after tax revenue

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Richard Damra Thursday, February 14, 2013
Determinants of DWL due to Tax
What determines the size of the deadweight loss from tax?
o Price elasticity of demand + supply
o Size of the tax
The following examples show what happens to deadweight loss when the size of the tax remains
the same and the
Demand curve is the same but supply elasticity changes.
Supply curve is the same but demand elasticity changes.
Inelastic Supply
o
Elastic Supply
o
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Richard Damra Thursday, February 14, 2013
Elastic Demand
o
Inelastic Demand
o
The greater the elasticities of demand and supply:
o The greater the decrease in equilibrium quantit
o Greater the DWL of a tax
With each increase in the tax rate, the deadweight loss of the tax rises even more rapidly than
the size of the tax.
Consider the following 3 diagrams:
A Smaller Tax:
o
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