Question

1. Does a tax lead to a deadweight loss? Explain your answer in detail.

2. How does a tax impact consumer and producer surplus?

5. Describe how deadweight loss changes when demand is elastic and inelastic.

8. Describe how deadweight loss changes when supply is elastic and inelastic

10. Explain the difference between the benefits principle and the ability-to-pay principle.

Answer 1

1. Tax causes deadweight loss because when a tax is imposed on a market it increases buyer's price and reduces sellers price. The difference between buyers price and sellers price is the amount of tax. However, buyers tend to Consume less when tax raises the price they've to pay and sellers produce less when the tax lowers the price they receive. It decreases the overall size of the market Below optimum equilibrium and therefore causes a deadweight loss.

2. As tax raises the price Consumers pay, it decreases Consumers surplus (Consumers surplus is the difference between Consumers willingness to pay and the market price) and producers surplus also decreases because tax lowers the price producers receive after tax (producers surplus is the difference between market price and producers willingness to sell).