Chapter 7 10 16 2013 Incidence Who bears the burden of a task Not the same as from whom is a tax collecting How sensitive they are to price changes price elasticity Surplus SOMETHING EXTRA Gas taxes rise 5 cents and I wonder how that will effect the price of gas Increase more than 5 cents a gallon remain unchanged increase by 5 cents a gallon o Price increase by 3 cents per gallon customers that morning were paying 3 cents per gallon and the tax is 5 cents per gallon Where was the other 2 cents coming from The sellers The burden of the tax was borne both by the buyers 3 cents and the sellers 2 cents o What is the affect of the over all society and on the economy of introducing this tax A Incidence of taxation Motivation Tools o Elasticity o Economic surplus the entire economy society surplus is something extra Benefit cost CS PS government revenue Res price buyer actual price actual price res price seller Actual price cancels out ES Res price buyers Res price sellers If the buyer thinks it worth more than the sellers than they aren t going to sell it Government is also part of the society and they will see benefits of the tax There are more than just the buyers and the sellers and the government that are effected these are called Third party affects Example student health center website Flu shots o Who s the buyer People getting shot o Who s the seller The student health center o Who else is involved Everyone else when the people get the flu shot not only are they protecting themselves they are protecting everyone around them health Does the actual price of the good effect o the total amount of surplus that is accrued to the society NO Consumer surplus benefit cost For the BUYERS Rational Buyers do something if benefit is at least as great as the cost cost is actual price benefit is something of value or worth reservation price Consumer surplus reservation price actual price o Rational you will buy the good if the consumer surplus is greater than or equal to 0 Producer surplus benefit cost For the SELLERS Rational Sellers do something if the benefit is at least as great as the cost benefit is actual price cost is worth value reservation price Producer surplus Actual price Reservation price o Rational you will sell good if producer surplus is greater than or equal to 0 Suppose broccoli is a normal good suppose further that national incomes increase Who is directly effected o Buyers Going to want to buy more What is the change in equilibrium price What s the change in cs ps and ec Government revenue Amount of tax X Quantity transacted involved When we have tax the government is There is now two equilibrium prices subtotal price before tax what the buyer is getting and total price after tax Deadweight loss Examples o Examples Who bears the burden of a tax How is economic surplus affected Chapter 11 10 16 2013 On a receipt there is 2 prices Tax is gained either by seller or by government Sin tax tax on smoking alcohol Incidence of taxation Tools o Economic surplus CS PS government revenue Excise tax as price of product goes up the quantity demanded goes down Consumer surplus Producer surplus Government revenue Deadweight loss loss economic surplus as a result of the tax All of the lost is due to output Tax is not necessarily a bad thing Look at cost and benefit Government is getting revenue Depends on size of tax Areas of loss depend on Ed and Es Examples Suppose we enact an excise tax of 10 Suppose further that price elasticity of demand is 0 6 and price elasticity of supply is 1 4 Graph on LL What of tax will borne by buyers 70 What of tax will borne by sellers 30 What is the change in the price that buyers pay goes up increases by 7 What is the change in the price that sellers receive goes down decrease by 3 Examples o Who bears the burden of the tax Both are affected area b buyers area d sellers Buyers are going to bear a greater burden than the sellers because they are more inelastic o How is economic surplus affected o Who bears the burden at the extreme Theory of the Firm The basics Assumption Profit o Definitions Total revenue TR Marginal revenue MR Total Cost TC Explicit Implicit Marginal Cost MC o Accounting o Economic o Maximizing rule MR MC o Normal Chapter 11 10 16 2013 Theory of the Firm The Basics looking at the decision making decisions of business makers Assumption o We assume businesses are rational they make decisions in order to achieve a goal Profit they are trying to maximize there profit o Benefit cost for selling goods and services o Producer surplus profit talking about the same thing o Definitions Total Revenue TR if a firm is selling one good TR Price times quantity Dollars flowing into your company Marginal Revenue MR Small incremental change Marginal revenue is the change in total revenue from selling one more unit of the good or service Total Cost TC pay for Explicit out monetary cost things we have to Accounting cost cost your accountant would add up Implicit not flowing in non monetary money that is not being earned Money not receiving anymore o If I ran a hallmark store I would have to give up teaching I would have the explicit cost of paying my workers and what not but I would also have implicit cost of not getting my pay check from teaching Marginal Cost MC Marginal cost is the change in total cost form producing one more unit of the good or service o Accounting IF WE ARE TALKING ABOUT ACCOUNTING PROFIT WE WILL SAY ACCOUNTING PROFIT Accounting profit TR Explicit cost profit o Economic IF WE EVER SEE PROFIT WE ARE TALKING ABOUT ECONOMIC PROFIT Economic profit TR Explicit Implicit cost 2 Relationship between accounting and economic profit accounting profit is always going to be greater than economic profit If economic profit is positive so accounting profit would be ambiguous positive If Economic profit is negative then accounting profit will be ambiguous Economic profit TR Explicit implicit o Accounting profit is TR explicit from what your doing o Implicit are the dollars not coming in because you choose to do something else or the accounting profit from the best alternative o Maximizing rule Q where MR MC MAX POINT How much to produce A firm will maximize its profit by producing the quantity of output where marginal revenue marginal cost Profit Total revenue Total cost Suppose marginal revenue 30 was greater than marginal cost 10 o By selling the last unit at 30 profit has gone up by 20 If we have a curve at its maximum point the slope is 0 At