Economics 1021A/B Lecture Notes - Federal Insurance Contributions Act Tax, Tax Incidence, Demand Curve

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24 Apr 2012
Department
Nicole Wallenburg
Mr. Parkin
Economics
Oct 19, 2011
Economics Lecture #10
Taxes
Everything you earn and most things you buy are taxed
Income tax and the social insurance taxes are deducted from your pay, and HST is added
to the price of most of the things you buy.
Tax Incidence
Tax incidence is the division of the burden of a tax between buyers and sellers.
When an item is taxed, its price might rise by the full amount of the tax, by a
lesser amount, or not at all.
If the price rises by the full amount of the tax, buyers pay the tax.
If the price rise by a lesser amount than the tax, buyers and sellers share the
burden of the tax.
If the price doesn’t rise at all, sellers pay the tax.
Tax incidence doesn’t depend on tax law!
The law might impose a tax on buyers or sellers, but the outcome will be the
same.
Tax incidence is the same regardless of whether the law says sellers pay or buyers
pay.
Tax Division and Elasticity of Demand
The division of the tax between buyers and sellers depends on the elasticities of demand
and supply.
To see how, we look at two extreme cases.
Perfectly inelastic demand: Buyer pay the entire tax.
Perfectly elastic demand: Sellers pay the entire tax.
The more inelastic the demand, the larger is the buyers’ share of the tax.
Perfectly Inelastic Demand
Demand for this good is perfectly inelasticthe demand curve is vertical.
When a tax is imposed on this good, buyers pay the entire tax.
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Nicole Wallenburg
Mr. Parkin
Economics
Oct 19, 2011
Perfectly Elastic Demand
The demand for this good is perfectly elasticthe demand curve is horizontal.
When a tax is imposed on this good, sellers pay the entire tax.
Tax Division and Elasticity of Supply
To see the effect of the elasticity of supply on the division of the tax payment, we again
look at two extreme cases.
Perfectly inelastic supply: Sellers pay the entire tax.
Perfectly elastic supply: Buyers pay the entire tax.
The more elastic the supply, the larger is the buyers’ share of the tax.
Perfectly Inelastic Supply
The supply of this good is perfectly inelasticthe supply curve is vertical
When a tax is imposed on this good, sellers pay the entire tax.
Perfectly Elastic Supply
The supply of this good is perfectly elasticthe supply curve is horizontal.
When a tax is imposed on this good, buyers pay the entire tax.
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