Question

a) There was a market where the price was $20 and the amount sold was 330. Then we put a $5/unit tax on supply and the price that buyers paid went up to $22. On a well labeled graph, show the resulting Dead Weight Loss and tax revenue. (You don’t have to calculate revenue and DWL, just show them on the graph.) Using the “Revenue Test of the Elasticity of Demand,” demonstrate whether this demand curve is elastic, inelastic, or unit elastic? b) Consider a couple with a household income of $160,000 per year. That puts them in the 22% marginal tax rate bracket. If their income were greater than $170,000, they would be in the 24% bracket. If their household income were to rise by $15,000, how much would their tax payments rise?

Answer 1

a) The graph:

In the graph above, yellow retangle is the tax revenue. Gray triangle is the deadweight loss.

Revenue has decreased with the increase in price (smaller triangle for total revenue after tax). So demand curve is elastic. It is more elastic than even the supply curve (consumers bear less tax burden. They pay $2, while producers bear $3 out of $5 tax).

b) Tax payment will rise by $3,400

Out of the additional $15,000, $10,000 falls under 22% tax bracket and $5,000 falls under 24% tax bracket.
So, excess tax burden is :

(10,000 * 22% = 2200) + (5,000*24% = 1200) = $3,400