Introduction to Government Finance
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Transcript of Introduction to Government Finance
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Copyright 2002 by Thomson Learning, Inc.
Chapter 10
Introduction toGovernment Finance
Copyright 2002 Thomson Learning, Inc.
Thomson Learning is a trademark used herein under license.
ALL RIGHTS RESERVED. Instructors of classes adopting PUBLIC FINANCE: A CONTEMPORARY APPLICATION OF THEORY
TO POLICY, Seventh Edition by David N. Hyman as an assigned textbook may reproduce material from this publication for classroom
use or in a secure electronic network environment that prevents downloading or reproducing the copyrighted material. Otherwise, no part
of this work covered by the copyright hereon may be reproduced or used in any form or by any meansgraphic, electronic, or mechanical,
including, but not limited to, photocopying, recording, taping, Web distribution, information networks, or information storage and retrieval
systemswithout the written permission of the publisher.
Printed in the United States of America
ISBN 0-03-033652-X
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Copyright 2002 by Thomson Learning, Inc.
Federal, State, and LocalRevenue
Sources:
Taxes:
Payroll
Income (Corporate and Personal) Property
Sales and Excise
Estate
Tariffs
Fees
Tuition
Licenses
$2.5 trillion
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Determinants of How Much We
Are Taxed
Political Equilibrium
Market Equilibrium and Its Efficiency
The Distribution of Income
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Taxes
Taxes are compulsory payments togovernment
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Tax Basics Tax Base
The item or the activity that is to be taxed.
Tax Rate Structure
The relationship between the amount that is to be paid in tax and the tax base for a given accounting period.
Marginal Tax Rate
The amount by which the tax increases when the tax base increases.
Average Tax Rate The total amount of tax divided by the total amount of the tax base.
Tax bracket
The range of the tax base in which the marginal rate is constant.
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Descriptors of the Tax Rate
Structure A Progressive Tax has astructure where the
marginal tax rate is increasing and greater than theaverage tax rate.
A Proportional Tax has a structure where themarginal tax rate is constant and equal to theaverage tax rate.
A Regressive Tax has a structure where themarginal tax rate is decreasing and less than theaverage tax rate.
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Figure 10.1 A Proportional Tax Rate Structure
TaxR
ate
(P
ercent)
Tax Base (Dollars per Year)0
tATR = MTR
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Figure 10.2 A Progressive Tax Rate Structure
TaxR
ate
(Percent)
Tax Base (Dollars of Taxable Income per Year)
0
35
25
15
MTR
ATR
4,000 29,000 70,000
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Figure 10.3 An Example of a Regressive TaxStructure
T
axR
ate
(P
ercent)
Annual Labor Earnings per Worker
0
15.30
12.35
2.9
$100,000
MTR
ATR
$76,200
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Average Tax Rates
Tax Brackets
(Taxable Income)
Marginal Tax
Rates (MTR)
Beginning
of Bracket
End of
Bracket
0-$4,000 0 0 0
$4000-$29,000 15 0 11
$29,000-$70,000 25 13 20
Above $70,000 35 20 34*
Average Tax Rates in the US
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How Should the Burden of
Government Be Financed Benefit Principle
Those that benefit the most from a
particular program should pay the most forthat program (Lindahl Tax principle atwork).
Ability-to-Pay Principle Those who have the greatest ability to pay
should be required to pay the most.
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Criteria for Evaluating Alternative
Methods of Government Finance Equity
The distribution of the burden of government finance shouldcoincide with commonly held notions of fairness and ability-to-pay.
Efficiency The system of government finance should raise revenues with only
a minimal loss in efficiency in the private sector.
Administrative ease A government finance system should be relatively easy to
administer in a consistent manner without excessive costs to collect,enforce, and comply with taxes and tax laws.
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Tax Compliance and Evasion
Tax Evasion is the term forillegal ways ofavoiding paying taxes. It is typically the result
of not declaring income or overstatingotherwise legal deductions.
Tax Avoidance is the term for thelegal waysof avoiding paying taxes, typically the result
of avoiding activities that are taxed, delayingthe time in which taxes are owed, or taking anaction designed to lower a tax burden.
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Figure 10.4 Reducing Tax Evasion
Costand
Benefit
Unreported Income per Year (Dollars)
0 D*1
B
MC
MB2
D*
A
MC
MB = MTR
Costand
Benefit
Unreported Income per Year (Dollars)
0
MC2C
MC1
CostandBenefit
Unreported Income per Year (Dollars)
0
MB = MTR
E
1E
E2
E
E1
MB1 = MTR1
D*
2
D*1
D*2
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Alternatives to Taxation
Debt Finance is the means of financingexpenditures through the issuing of
bonds. Inflationary Finance is the means of
financing expenditures through the
printing of money.
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Figure 10.5 Inflationary Finance
Gunspe
rYear
Butter per Year
0 B2
G2
G1
CI
A
T'B1
T
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More alternatives to Taxation
Donations Money (but more usually time) is voluntarily given to
government. Military service or work in the Peace Corps canbe considered a donation when the compensation is lessthan the market value of the time.
User Charges Payments by users of the government service can be
expected. Examples include tuition, fees paid to enter stateparks, greens fees at publicly owned golf courses.
Earmarked Taxes Taxes can be implemented to fund specific public goods.
Examples include gasoline taxes and tolls designed to fundroad and bridge repair.
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Figure 10.6 User Charges and Efficiency
Char g
e
s
Trash Pickups per Year
0 Q*
C*
C* + S*
MSB = MPB + MEB
MPB
MSC
S*
Z*
Z
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Figure 10.7 User Charges for a CongestibleGovernment-Supplied Service
UserCha
rges
(Centspe
rMil e
)
Vehicles per Mile per Hour
0
E1
20
E2
D2 = MSB2D1 = MSB1MSC
80 100 120 150
E*
N*
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User Charges and Efficiency
Roads and Bridges wear out when too muchweight is concentrated on too few axles.
Tolls motivate the wrong behavior in that theytax per axle rather than on pounds per axle.
Estimates suggest that taxing pounds peraxle and using the revenue to repair roads toa greater strength would pay for itself morethan eight-fold.
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State Lotteries
State Lotteries account for more than3% of state revenues.
Evidence suggests that the lotterysystem is a regressive means ofcreating government revenue.