ECO2030 1st Edition Lecture 14 Outline of Last Lecture I Government policies price ceiling and price floors Outline of Current Lecture II Taxes and who pays them the buyers or the sellers III Taxes and elasticity Current Lecture Recognize whether a price floor or ceiling is binding or not for exam refer to lecture 13 Expect question such as what is the shortage in the long price and demand become more price elastic so shortages are greater When there are shortages we are worried about discrimination recall that when price floors are implemented such as minimum wage supply of labor increases so instead of a shortage you get a surplus again we are worried about discrimination Labor is also substitutable so when wages increase too much then companies will utilize more automation Anything that changes the equilibrium price is binding for both price floors and ceilings Policies intended to help the poor often hurt more people Taxes Buyers or sellers may be required to pay the tax it is the same every tax will reduce quantity sold the tax has to be shared by buyers and sellers In this example we analyze a 1 50 tax on buyers on Pizza You can see on the right that this essentially raises the price by 1 50 meaning the demand will decrease shift to the left In order for sellers to supply the same amount of pizza 500 they would have to drop the price by the same amount of the tax 1 50 Again this is another example of a tax on buyers See how in this case we are looking at who pays the tax you can see that the buyers are paying 1 whereas the sellers are paying 50 cents Remember that every tax shifts the demand curve left because it increases the price 9 50 is what the suppliers receive and 11 is what the buyers have to pay The difference is the tax which is 1 50 So you can see that the buyers and sellers both share the tax If the tax is one the suppliers we see that the supply curve shifts by the amount of the tax You should think about the tax as an increase in the cost of production Again you can see here that the tax is shared by both the buyers and sellers buyers pay 11 and suppliers receive 9 50 the difference is the tax Again the buyers are paying 1 of the tax and the sellers pay 50 cents think of it like a wedge buyers always pay more than sellers receive so the price buyers pay is always the upper amount and the price sellers get is always the lower amount All that really matters is that a tax on buyers or a tax on sellers makes no difference the tax will be shared either way Since we can ignore who pays the tax we can use a simplified method to determine the New Price sellers buyers pay and the new quantity sold In this example we are determining the effect of a 30 tax on hotel rooms Since the tax is 30 it will decrease the demand because buyers will buy less What we do is find the change the the left of the equilibrium point the change is 30 so in this case it is 3 boxes you draw the line and you will have the new price sellers receive 60 the new price buyers pay 90 and the new quantity demanded 100 You can think of this as the wedge that the tax drives between the purchasers and suppliers Elasticity determines who pays more of the tax As you will see both the elasticity of the demand and the supply curve affect who pays more tax In this case the supply is more elastic than the demand supply curve is flatter this means that sellers are more likely to leave the market while buyers have less choices available therefore when the supply curve is more elastic than the demand curve buyers typically pay more of the tax than sellers When the demand curve is more elastic than the supply curve sellers pay the majority of the tax this is because when the demand curve is elastic it means that buyers are more sensitive to the price Another way to put it is that buyers have more alternatives such as substitutes Luxury tax example on yachts private airplanes expensive cars etc Who pays the tax the idea of the luxury tax is clearly to tax the rich however we will see how this is not true Recall that for luxury items demand is price elastic mainly because there are alternatives to luxuries as well as substitutes Also supply of luxury items is usually less elastic because factories that produce luxury items often have big overheads and find it hard to quickly start producing different goods Therefore sellers will bear the burden of the luxury tax