Government Taxation Causes A Deadweight
Loss For The Economy
First,
watch this video:
https://www.youtube.com/watch?v=dbuU8S1x0Ro&feature=youtu.be
…
Per Figure 1:
For the economy, maximization of total consumer
+ producer surplus is the goal
Consumer surplus (satisfaction) = the price
consumers are willing to pay for a good minus the price they actually pay for
it .
Producer surplus (profit) = the price
producers receive for a good minus their costs of producing that good.
In Figure 1, maximum total surplus is
at equilibrium E.
…
Per Figure 2:
·
pre-tax total surplus = consumer surplus (A + B + C) + supplier surplus (D + E
+ F)
·
government needs tax revenues, but taxation creates deadweight loss
·
government tax revenue = B + D
·
deadweight loss caused by taxation = C + E
…
Example of deadweight loss:
Consumer surplus:
Joe values a pizza at $8, the maximum
he would pay for a pizza, and Jane values it at $6.
The pre-tax price of pizza is $5, so
both Joe and Jane will buy one.
Both Joe and Jane get a consumer
surplus over the amount they pay
· Joe gets consumer surplus of
$8 - $5 = $3
· Jane gets consumer surplus of $6 - $5
= $1
· total consumer surplus is $4
Then government levies a $2 tax on each
pizza
· the price of
pizza rises to $5 + $2 = $7
· Joe still buys a pizza, but now
receives a consumer surplus of only $8 - $7 = $1
· Jane decides not to buy a pizza
because the $7 price is higher than its $6 value to her
…
Supplier surplus:
Rico’s is the only local pizza
restaurant, so Joe and Jane both buy there.
The pre-tax price of pizza is $5, so
both Joe and Jane will buy one.
It costs Rico’s $4 to make a pizza, so
it makes $1 producer surplus (profit) from each pizza sold.
Then government levies a $2 tax on each
pizza.
Before the new $2 tax per pizza Rico’s
sells two pizzas, one each to Joe and Jane, for a total of $2 producer surplus.
After the tax Rico’s sells one pizza, only
to Joe, total producer surplus is reduced to $1.
…
Total tax and deadweight loss overall result:
Before tax total surplus: Joe $3, Jane
$1, Rico’s $2, and tax revenue $0, total economy benefit is $6.
After tax total surplus: Joe $1, Jane
$0, Rico’s $1, tax revenue $2, total economy benefit is $4
Total deadweight loss created by the
tax is $6 - $4 = $2
…
Per
Figure 3:
Another
cause of deadweight loss is government wasteful spending.
Government
wasteful spending is mainly caused by no profit motivation and great political motivation.
This
results in favoring projects that benefit special interest groups.
Costs
often become a secondary concern.
…
So,
these conclusions can be drawn:
·
with the smallest possible taxation and government we have the smallest
deadweight loss and biggest economy
·
when in doubt politicians should not raise the amount of taxing and spending
… …
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