EC211 · LESSON 04 / 08

4. Taxes and market welfare

If the seller remits a tax, does that mean buyers bear none of its burden?

Understand

What is this lesson explaining?

A per-unit tax creates a wedge between the buyer’s price and the seller’s net price equal to the tax. Separate Pb from Ps: demand uses Pb and supply uses Ps.

Economic incidence compares post-tax prices with the original price, not the identity of the remitter. In competitive markets, the less price-responsive side typically bears more because it can adjust away from the taxed activity less easily.

KEY MODEL

Pb − Ps = t

Tax revenue = tQ

DWL = ½t(Q₀ − Qt)

tTax per unitPb / PsBuyer price / seller net priceDWLDeadweight loss of total surplus

See it on a graph

The graph is right here

Read the axes and original point first. Then change one value at a time and watch the curve or point move.

KEY MODEL

D:P = 100 − Q

S:P = 20 + Q

tax = 0

P1 (E₀=Pbuyer E₁=Pseller): Q=40, P=60

D₀D₁SS + tax

Change demand: 0 Qd units changed at each fixed price Tax per unit: 0 model units

Higher demand shifts D right. A higher tax widens the buyer–seller price wedge. Q=40, buyer pays 60, seller receives 60. Tax revenue 0, deadweight loss 0. Competitive market with no externalities.

Blue dashed: original · Solid: new state · E₀/A: original point · E₁/B: new point. Coincident points share a label; use the explanation to read each result.

A curve shifts when one of its non-axis conditions changes. An adjusting point on a fixed curve is movement along that curve, not a shift of it.

Quick check

NO TYPING

If the tax is 4 in the same market, what are the buyer price and quantity?

Takeaway

Remember these two ideas

✓

Initially P = 20 and Q = 60. With t = 10, use Pb = Ps + 10: 100 − 2(Ps + 10) = 20 + 2Ps. Thus Ps = 15, Pb = 25, Q = 50.

Common mix-upA tax of 10 does not always raise the buyer price by 10, and tax revenue of 500 is not DWL of 500.

Assumptions and sources

A competitive market with linear Qd = 100 − 2Pb and Qs = 20 + 2Ps and no externalities. The triangular loss formula applies to these linear curves and a per-unit tax.

Pindyck & Rubinfeld, Microeconomics, 9th Global Edition, ch. 9, pp. 356 (PDF 358); original examples and questions.