Unit 8: The Costs of Taxation
Every tax loses a little to the deals it prevents from happening at all — the deadweight loss that grows faster than the tax itself.
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.
Deadweight Loss
- How it worksHow does a tax wedge stop mutually beneficial trades from happening, and how does that lost surplus show up as a triangle on the graph?
- Common mistakeWhy isn't the deadweight loss of a tax the same as its revenue, just counted differently?
- Going furtherWhat happens to a market's deadweight loss as the tax per unit gets larger and larger?
Your turn1 of 2
A 6 dollar tax wedge stops trades from happening between the new lower quantity and the old equilibrium quantity. If the quantity falls by 23 units, what is the deadweight loss, using one half times the tax times the quantity lost?Deadweight Loss and Elasticity
- How it worksHow does a bigger elasticity on either side of the market widen the deadweight-loss triangle for the same size tax?
- Worked exampleFind how the deadweight loss changes if a 1 dollar tax is placed on a good with elastic demand versus the same tax on a good with inelastic demand.
- Common mistakeWhy doesn't taxing a good with inelastic demand raise almost no revenue, even though it barely changes behavior?
Your turn1 of 2
A one dollar tax creates a deadweight loss of 68 dollars in a market with elastic demand, and a deadweight loss of 18 dollars in a market with inelastic demand for the identical size tax. By how many dollars is the elastic market's deadweight loss larger?Tax Size, Deadweight Loss, and Tax Revenue
- How it worksHow does deadweight loss grow roughly with the square of the tax while revenue eventually turns around and falls?
- Worked exampleWalk me through a Laffer-curve example where a tax rate rising from 40 percent to 80 percent actually collects less total revenue.
- Common mistakeWhy doesn't the Laffer curve's shape mean that every tax cut pays for itself in higher revenue?
- Going furtherWhat happens to the deadweight loss and revenue from a tax as the tax rate climbs from a small number toward 100 percent?
- Ties togetherHow does the Laffer curve's rise-then-fall shape connect to the same kind of trade-off the course sees in a tariff's welfare cost?
Your turn1 of 2
A government's Laffer curve shows tax revenue equal to the tax rate times a shrinking tax base of 1079 minus 10 times the rate. At a rate of 48 percent, what is total tax revenue?Calculating Deadweight Loss
- Worked exampleFind the deadweight loss of a 4 dollar per unit tax that cuts a market's quantity from 100 units to 80 units.
- How it worksHow do you find the base and height of the deadweight-loss triangle from the tax size and the change in quantity?
- Common mistakeWhy doesn't the deadweight-loss triangle include the tax revenue rectangle sitting right next to it?
Your turn1 of 2
Find the deadweight loss of a 6 dollar per unit tax that cuts a market's quantity from 109 units to 83 units.Real-World Taxes and the Costs of Taxation
- How it worksHow does a payroll tax on labor create a wedge between what a worker costs an employer and what the worker takes home?
- Going furtherWhat happens to deadweight-loss estimates once you count how a tax changes decisions like working overtime, not just whether people work at all?
- Common mistakeWhy isn't the case for low tax rates on labor an argument for having no taxes at all?
Your turn1 of 2
A payroll tax is split between what an employer pays for a worker and what the worker actually takes home in their paycheck. How does this tax create a wedge in the labor market?