Tax Incidence: Partial Equilibrium Anderson: Equity Aspects of Taxes and Expenditures.

Tax Incidence: Partial Equilibrium

Anderson: Equity Aspects of Taxes and Expenditures

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Introduction• In this chapter we are concerned about who bears

the burden of taxation.

• That requires knowledge of who really bears the burden,

• Not just knowing what the law says about who is required to pay.


The Incidence of Taxes• Tax incidence is about who the burden of taxation

falls upon.

• When a tax is applied to goods consumers purchase, for example, one might think that they bear the burden of the tax.

• But the tax raises the price of the good, and reduces the quantity consumers wish to buy.


The Incidence of Taxes, [continued]

• Consequently, the producer is affected by the tax as well.

• Similarly, if the tax is applied to the producer, there are economic consequences for both producers and consumers.

• We consider each of these possibilities, examining the precise burdens in each case.


The Concept of Incidence

• Economic incidence

• Economic vs. statutory incidence


Figure 12.1: Effect of a Unit Tax on Demand


Partial Equilibrium Tax Incidence

• First, we consider the issue of tax incidence in a single market. • In this case, we examine how the tax affects

equilibrium price and quantity in one market. • Since other markets are not considered, we call this

type of analysis partial equilibrium analysis.


Figure 12.2: Incidence of a Unit Tax Applied to Consumers


Figure 12.3: The Effect of a Unit Tax on Supply


Figure 12.4: Incidence of a Unit Tax Applied to Producers


Incidence of an Ad Valorem Tax

• If the tax is applied to the value of the good, the size of the tax rises with the price.

• Hence, we must model the tax as increasing with price.


Figure 12.5: Effect of an Ad Valorem Tax on Supply


Figure 12.6: Incidence of an Ad Valorem Tax Applied to Producers


What Determines Producer’s and Consumer’s Incidence?

• Most fundamentally, the incidence of a tax is determined by two factors:

• Price elasticity of demand, and the.

• Price elasticity of supply.

• It is the relative size of these two elasticities that determine the tax burden.


Figure 12.7: The Incidence of a Unit Tax Depends on the Elasticity of Demand


Figure 12.8: The Incidence of a Unit Tax Depends on the Elasticity of Supply

Tax Incidence: Partial Equilibrium Anderson: Equity Aspects of Taxes and Expenditures.

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