Unit 12: The Design of the Tax System
Two rival principles for who should pay, average vs marginal rates, and the trade a society makes between a bigger pie and a fairer slice.
5 topics · 17 questions
Each topic is a path, not a menu: work down it in order and every question builds on the one above. Click any of them to watch the answer draw itself.
The Benefits Principle vs the Ability-to-Pay Principle
- How it worksHow does the benefits principle tie a person's tax to how much they use a government service, while ability-to-pay ties it to their income?
- Common mistakeWhy isn't there one single correct principle that settles every tax design argument?
- Going furtherWhat happens to who pays for a road when a state funds it with a gas tax instead of a general income tax?
Your turn1 of 2
A gas tax charges drivers roughly in proportion to how much they use the roads, while a general income tax charges people based on how much they earn regardless of road use. Which tax design principle does each one follow?Average Tax Rates vs Marginal Tax Rates
- How it worksHow does a marginal tax rate apply only to the last dollar earned while the average tax rate blends every bracket a person crossed?
- Worked exampleFind the average tax rate for someone earning 60000 dollars under brackets of 10 percent on the first 20000 dollars and 20 percent on the rest.
- Common mistakeWhy doesn't a higher marginal tax bracket mean the government taxes away your whole raise?
Your turn1 of 2
Find the average tax rate for someone earning 70893 dollars under brackets of 12 percent on the first 21490 dollars and 20 percent on the rest.Progressive, Regressive, and Proportional Taxes
- How it worksHow does a progressive tax raise its average rate as income rises, while a regressive tax's average rate falls?
- Worked exampleFind whether a payroll tax is regressive if it applies a flat rate only to the first 160000 dollars of income and none above that.
- Common mistakeWhy doesn't regressive mean a tax charges a smaller total dollar amount to the rich?
Your turn1 of 2
A payroll tax applies a flat rate of 7 percent only to the first 159470 dollars of income and none above that. What is the effective average tax rate paid by someone earning 386447 dollars?The Efficiency-Equity Trade-off in Tax Design
- How it worksHow does the leaky bucket metaphor capture the efficiency cost of moving a dollar of income through the tax and transfer system?
- Worked exampleFind how much of a 100 dollar tax-and-transfer actually reaches a poor household if administrative costs and reduced work effort leak away 30 dollars.
- Common mistakeWhy isn't the most equal possible distribution of income automatically the most efficient tax policy?
- Going furtherWhat happens to the size of the efficiency leak as marginal tax rates climb higher and higher to fund more redistribution?
- Ties togetherHow does the efficiency-equity trade-off in taxation echo the same trade-off the course first raised with consumer and producer surplus?
Your turn1 of 2
Find how much of a 129 dollar tax-and-transfer actually reaches a poor household if administrative costs and reduced work effort leak away 38 dollars.Who Really Bears a Corporate Tax
- How it worksHow does a corporate tax get passed backward into lower wages or forward into higher prices depending on elasticity, the same as any other tax?
- Common mistakeWhy isn't a corporation, as a legal entity, the one who ultimately feels the burden of a tax written in its name?
- Ties togetherHow does the incidence logic from an earlier payroll-tax example apply just as well to a tax on corporate profits?
Your turn1 of 2
A 4 dollar per unit corporate tax gets passed backward into wages and forward into prices according to relative elasticity. If workers have an elasticity of 0.624 and consumers have an elasticity of 2.9, how many dollars of the tax do workers effectively bear, using tax times consumer elasticity divided by the sum of the two elasticities?