Question

4. The Laffer curve 

Government-imposed taxes cause reductions in the activity that is being taxed, which has important implications for revenue collections. 

To understand the effect of such a tax, consider the monthly market for cigarettes, which is shown on the following graph. 

Use the graph input tool to help you answer the following questions. You will not be graded on any changes you make to this graph. 

Note: Once you enter a value in a white field, the graph and any corresponding amounts in each grey field will change accordingly. 

Suppose the government imposes a $4-per-pack tax on suppliers. 

At this tax amount, the equilibrium quantity of cigarettes is _______ packs, and the government collects $_______  in tax revenue. 

Now calculate the government's tax revenue if it sets a tax of $0, $4, $8, $10, $12, $16, or $20 per pack. (Hint: To find the equilibrium quantity after the tax, adjust the "Quantity" field until the Tax equals the value of the per-unit tax.) Using the data you generate, plot a Laffer curve by using the green points (triangle symbol) to plot total tax revenue at each of those tax levels. 

Note: Plot your points in the order in which you would like them connected. Line segments will connect the points automatically. 

Suppose the government is currently imposing a $16-per-pack tax on cigarettes. 

True or False: The government can raise its tax revenue by increasing the per-unit tax on cigarettes.

Consider the deadweight loss generated in each of the following cases: no tax, a tax of $8 per pack, and a tax of $16 per pack.

Answer 1

Suppose the government imposes $4 per pack tax on suppliers.

As a result, the price buyers paid equals to $12 and price sellers receives equals to $8.  At this tax amount, the equilibrium quantity of cigarettes is 72 packs and government collects ($4)(72)= $288 in revenue.

To plot the laffer curve, we have to calculate the tax revenue at different tax rates, this is shown in the following table:

Tax	Quantity after tax	Tax revenue
0	90	0
4	72	288
8	54	432
10	45	450
12	36	432
16	18	288
20	0	0

By plotting these points, we get the laffer curve as shown below:

Revenue (Dollars uso 360 luffer 315 Curve 220 180 135 90 ust 0 4 6 2 C 8 10 12 14 16 18 20 Tax (Dollars per pack)

Suppose the government is currently imposing a $16 per pack tax on cigarettes.

FALSE because the government cannot raise its tax revenue by increasing the per unit tax on cigarettes . As we can see in the above table or graph ,that when tax is $16 per bottle ,then tax revenue =$288, and when tax is $20 ,then tax revenue is $0.

Deadweight loss is the area of the triangle = (0.5)(Reduction in quantity after tax)(Tax amount)

Tax	Reduction in quantity	Deadweight loss
0	0	0
8	(90-54)=36	(0.5)(36)(8)= 144
16	(90-18)=72	(0.5)(72)(16)=576

By plotting these points ,we get the deadweight loss curve as shown below:

A Deadweight loss 576 504 432 360 288 216 144 - 72+ 6 2 4 6 8 10 12 14 16 18 20 Dollars peo pack)

As the tax per pack increases, deadweight loss increases by greater and greater amount as shown in the above table and graph.