burden of tax
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burden of taxTRANSCRIPT
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1Burden of Tax
7-3
The Benefits of Taxation
The benefits of taxation are the goods and servicesthat government provides. Provides a stable set of institutions and rules Promotes effective and workable competition Corrects for externalities Creates an environment that fosters stability and growth Provides public goods Adjusts for undesirable market results
Two Principles of Taxation
The benefits principle the individuals whoreceive the benefit of the good or serviceshould pay the tax necessary to supply thegood.
The ability-to-pay principle individuals whoare most able to bear the burden of the taxshould pay.
Who Bears the Burden of a Tax?
The supply and demand framework gives theanswer to this question.
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2Burden Depends on RelativeElasticity The person who physically pays the tax is
not necessarily the person who bears theburden of the tax.
The burden of the tax is rarely shared equallysince elasticities are rarely equal.
Burden Depends on RelativeElasticity The more inelastic ones relative supply and
demand, the larger the tax burden one willbear.
Burden Depends on RelativeElasticity If demand is more inelastic than supply,
consumers will pay the higher share.
If supply is more inelastic than demand,suppliers will pay the higher share.
Who Bears theBurden of a Tax?
Supplier Pays Tax
Pric
e of
luxu
ry b
oats $70,000
60,00050,00040,00030,00020,00010,000
Quantity of luxury boats 600200 400
S1
Demand
S0
510
taxConsumer paysSupplier pays
McGraw-Hill/Irwin 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
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3Who Bears theBurden of a Tax?
590
Pric
e of
luxu
ry b
oats $70,000
60,00050,00040,00030,00020,00010,000
Quantity of luxury boats 600200 400
S1
S0
Demand is inelastic
Demand
taxConsumer pays
Supplier pays
McGraw-Hill/Irwin 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Who Bears theBurden of a Tax?
Consumer Pays Tax
Pric
e of
luxu
ry b
oats $70,000
60,00050,00040,00030,00020,00010,000
Quantity of luxury boats 600200 400
D0
S0
510
tax
Consumer pays
Supplier pays
D1
McGraw-Hill/Irwin 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Who Bears the Tax Burden?
Demand is elasticEqual burden
Pric
e of
luxu
ry b
oats
Quantity of luxury boats
0 510
S1DS0
60
$70
600
50
40
Pric
e of
luxu
ry b
oats
Quantity of luxury boats
0 500
S1DS0
60
$70
600
50
40
tax
Demand is inelasticLarger consumer burden
590
Who Bears the Tax Burden?
Supplier pays the tax-Supply shifts
Pric
e of
luxu
ry b
oats
Quantity of luxury boats
0 510
S1DS0
60
$70
600
50
40
tax
Pric
e of
luxu
ry b
oats
Quantity of luxury boats
0 510
D0
S
60
$70
600
50
40tax
D1
Consumer pays the tax-Demand shifts
Tax b
urden
is in
depe
nden
t of
Tax b
urden
is in
depe
nden
t of
who p
ays t
he ta
x.
who p
ays t
he ta
x.
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4Who Pays Versus Who Bears theBurden of a Tax The burden of a tax is independentindependent of who
physically pays the tax.
Tax Incidence and Current PolicyDebates The analysis of tax incidence is helpful when
discussing current policy debates.
Social Security Taxes
Both employer and employee contribute thesame percentage of before-tax wages to theSocial Security fund.
Social Security Taxes
The fact that both the employer andemployee contribute the same percentagedoes not mean they share the burdenequally.
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5Social Security Taxes
On average, labor supply tends to be lesselastic than labor demand, so the SocialSecurity tax burden is primarily onemployees.
Sales Taxes
Sales taxes are those paid by retailers on thebasis of their sales revenue.
Since sales taxes are broadly defined,consumers find it hard to substitute.
Demand is inelastic so consumers bear thegreater burden of the tax.
Sales Taxes
As consumers increase purchases on theinternet where sales are not taxed, retailstores will bear a greater burden of the salestax.