© 2010 w. w. norton & company, inc. 16 equilibrium
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© 2010 W. W. Norton & Company, Inc.
16 Equilibrium
© 2010 W. W. Norton & Company, Inc. 2
Market Equilibrium
A market is in equilibrium when total quantity demanded by buyers equals total quantity supplied by sellers.
© 2010 W. W. Norton & Company, Inc. 3
Market Equilibriump
D(p)
q=D(p)
Marketdemand
© 2010 W. W. Norton & Company, Inc. 4
Market Equilibriump
S(p)
Marketsupply
q=S(p)
© 2010 W. W. Norton & Company, Inc. 5
Market Equilibriump
D(p), S(p)
q=D(p)
Marketdemand
Marketsupply
q=S(p)
© 2010 W. W. Norton & Company, Inc. 6
Market Equilibriump
D(p), S(p)
q=D(p)
Marketdemand
Marketsupply
q=S(p)
p*
q*
© 2010 W. W. Norton & Company, Inc. 7
Market Equilibriump
D(p), S(p)
q=D(p)
Marketdemand
Marketsupply
q=S(p)
p*
q*
D(p*) = S(p*); the marketis in equilibrium.
© 2010 W. W. Norton & Company, Inc. 8
Market Equilibriump
D(p), S(p)
q=D(p)
Marketdemand
Marketsupply
q=S(p)
p*
S(p’)
D(p’) < S(p’); an excessof quantity supplied overquantity demanded.
p’
D(p’)
© 2010 W. W. Norton & Company, Inc. 9
Market Equilibriump
D(p), S(p)
q=D(p)
Marketdemand
Marketsupply
q=S(p)
p*
S(p’)
D(p’) < S(p’); an excessof quantity supplied overquantity demanded.
p’
D(p’)
Market price must fall towards p*.
© 2010 W. W. Norton & Company, Inc. 10
Market Equilibriump
D(p), S(p)
q=D(p)
Marketdemand
Marketsupply
q=S(p)
p*
D(p”)
D(p”) > S(p”); an excessof quantity demandedover quantity supplied.
p”
S(p”)
© 2010 W. W. Norton & Company, Inc. 11
Market Equilibriump
D(p), S(p)
q=D(p)
Marketdemand
Marketsupply
q=S(p)
p*
D(p”)
D(p”) > S(p”); an excessof quantity demandedover quantity supplied.
p”
S(p”)
Market price must rise towards p*.
© 2010 W. W. Norton & Company, Inc. 12
Market Equilibrium
An example of calculating a market equilibrium when the market demand and supply curves are linear.
D p a bp( ) S p c dp( )
© 2010 W. W. Norton & Company, Inc. 13
Market Equilibriump
D(p), S(p)
D(p) = a-bp
Marketdemand
Marketsupply
S(p) = c+dp
p*
q*
© 2010 W. W. Norton & Company, Inc. 14
Market Equilibriump
D(p), S(p)
D(p) = a-bp
Marketdemand
Marketsupply
S(p) = c+dp
p*
q*
What are the valuesof p* and q*?
© 2010 W. W. Norton & Company, Inc. 15
Market EquilibriumD p a bp( ) S p c dp( )
At the equilibrium price p*, D(p*) = S(p*).
© 2010 W. W. Norton & Company, Inc. 16
Market EquilibriumD p a bp( ) S p c dp( )
At the equilibrium price p*, D(p*) = S(p*).That is, a bp c dp * *
© 2010 W. W. Norton & Company, Inc. 17
Market EquilibriumD p a bp( ) S p c dp( )
At the equilibrium price p*, D(p*) = S(p*).That is, a bp c dp * *
which gives pa cb d
*
© 2010 W. W. Norton & Company, Inc. 18
Market EquilibriumD p a bp( ) S p c dp( )
At the equilibrium price p*, D(p*) = S(p*).That is, a bp c dp * *
which gives pa cb d
*
and q D p S pad bcb d
* * *( ) ( ) .
© 2010 W. W. Norton & Company, Inc. 19
Market Equilibriump
D(p), S(p)
D(p) = a-bp
Marketdemand
Marketsupply
S(p) = c+dpp
a cb d
*
dbbcad
q*
© 2010 W. W. Norton & Company, Inc. 20
Market Equilibrium
Can we calculate the market equilibrium using the inverse market demand and supply curves?
© 2010 W. W. Norton & Company, Inc. 21
Market Equilibrium
Can we calculate the market equilibrium using the inverse market demand and supply curves?
Yes, it is the same calculation.
© 2010 W. W. Norton & Company, Inc. 22
Market Equilibriumq D p a bp p
a qb
D q ( ) ( ),1
q S p c dp pc qd
S q ( ) ( ),1
the equation of the inverse marketdemand curve. And
the equation of the inverse marketsupply curve.
© 2010 W. W. Norton & Company, Inc. 23
Market Equilibrium
q
D-1(q),S-1(q)
D-1(q) = (a-q)/b
Marketinversedemand
Market inverse supplyS-1(q) = (-c+q)/d
p*
q*
© 2010 W. W. Norton & Company, Inc. 24
Market Equilibrium
q
D-1(q),S-1(q)
D-1(q) = (a-q)/b
Marketdemand
S-1(q) = (-c+q)/d
p*
q*
At equilibrium,D-1(q*) = S-1(q*).
Market inverse supply
© 2010 W. W. Norton & Company, Inc. 25
Market Equilibriump D q
a qb
1( ) p S qc qd
1( ) .and
At the equilibrium quantity q*, D-1(p*) = S-1(p*).
© 2010 W. W. Norton & Company, Inc. 26
Market Equilibriump D q
a qb
1( ) p S qc qd
1( ) .and
At the equilibrium quantity q*, D-1(p*) = S-1(p*).That is, a q
bc q
d * *
© 2010 W. W. Norton & Company, Inc. 27
Market Equilibriump D q
a qb
1( ) p S qc qd
1( ) .and
At the equilibrium quantity q*, D-1(p*) = S-1(p*).That is, a q
bc q
d * *
which gives qad bcb d
*
© 2010 W. W. Norton & Company, Inc. 28
Market Equilibriump D q
a qb
1( ) p S qc qd
1( ) .and
At the equilibrium quantity q*, D-1(p*) = S-1(p*).That is, a q
bc q
d * *
which gives qad bcb d
*
and p D q S qa cb d
* * *( ) ( ) .
1 1
© 2010 W. W. Norton & Company, Inc. 29
Market Equilibrium
q
D-1(q),S-1(q)
D-1(q) = (a-q)/b
Marketdemand
Marketsupply
S-1(q) = (-c+q)/dp
a cb d
*
dbbcad
q*
© 2010 W. W. Norton & Company, Inc. 30
Market Equilibrium
Two special cases:
– quantity supplied is fixed, independent of the market price, and
– quantity supplied is extremely sensitive to the market price.
© 2010 W. W. Norton & Company, Inc. 31
Market EquilibriumMarket quantity supplied isfixed, independent of price.
p
qq*
© 2010 W. W. Norton & Company, Inc. 32
Market Equilibrium
S(p) = c+dp, so d=0and S(p) c.
p
qq* = c
Market quantity supplied isfixed, independent of price.
© 2010 W. W. Norton & Company, Inc. 33
Market Equilibrium
S(p) = c+dp, so d=0and S(p) c.
p
qq* = c
D-1(q) = (a-q)/b
Marketdemand
Market quantity supplied isfixed, independent of price.
© 2010 W. W. Norton & Company, Inc. 34
Market Equilibrium
S(p) = c+dp, so d=0and S(p) c.
p
q
p*
D-1(q) = (a-q)/b
Marketdemand
q* = c
Market quantity supplied isfixed, independent of price.
© 2010 W. W. Norton & Company, Inc. 35
Market Equilibrium
S(p) = c+dp, so d=0and S(p) c.
p
q
p* =(a-c)/b
D-1(q) = (a-q)/b
Marketdemand
q* = c
p* = D-1(q*); that is,p* = (a-c)/b.
Market quantity supplied isfixed, independent of price.
© 2010 W. W. Norton & Company, Inc. 36
Market Equilibrium
S(p) = c+dp, so d=0and S(p) c.
p
q
D-1(q) = (a-q)/b
Marketdemand
q* = c
p* = D-1(q*); that is,p* = (a-c)/b.
p* =(a-c)/b
Market quantity supplied isfixed, independent of price.
pa cb d
*
qad bcb d
*
© 2010 W. W. Norton & Company, Inc. 37
Market Equilibrium
S(p) = c+dp, so d=0and S(p) c.
p
q
D-1(q) = (a-q)/b
Marketdemand
q* = c
p* = D-1(q*); that is,p* = (a-c)/b.
pa cb d
*
qad bcb d
*
with d = 0 give
pa c
b*
q c* .
p* =(a-c)/b
Market quantity supplied isfixed, independent of price.
© 2010 W. W. Norton & Company, Inc. 38
Market Equilibrium
Two special cases are
– when quantity supplied is fixed, independent of the market price, and
– when quantity supplied is extremely sensitive to the market price.
© 2010 W. W. Norton & Company, Inc. 39
Market EquilibriumMarket quantity supplied isextremely sensitive to price.
p
q
© 2010 W. W. Norton & Company, Inc. 40
Market EquilibriumMarket quantity supplied isextremely sensitive to price.
S-1(q) = p*.
p
q
p*
© 2010 W. W. Norton & Company, Inc. 41
Market EquilibriumMarket quantity supplied isextremely sensitive to price.
S-1(q) = p*.
p
q
p*
D-1(q) = (a-q)/b
Marketdemand
© 2010 W. W. Norton & Company, Inc. 42
Market EquilibriumMarket quantity supplied isextremely sensitive to price.
S-1(q) = p*.
p
q
p*
D-1(q) = (a-q)/b
Marketdemand
q*
© 2010 W. W. Norton & Company, Inc. 43
Market EquilibriumMarket quantity supplied isextremely sensitive to price.
S-1(q) = p*.
p
q
p*
D-1(q) = (a-q)/b
Marketdemand
q* =a-bp*
p* = D-1(q*) = (a-q*)/b soq* = a-bp*
© 2010 W. W. Norton & Company, Inc. 44
Quantity Taxes
A quantity tax levied at a rate of $t is a tax of $t paid on each unit traded.
If the tax is levied on sellers then it is an excise tax.
If the tax is levied on buyers then it is a sales tax.
© 2010 W. W. Norton & Company, Inc. 45
Quantity Taxes
What is the effect of a quantity tax on a market’s equilibrium?
How are prices affected? How is the quantity traded affected? Who pays the tax? How are gains-to-trade altered?
© 2010 W. W. Norton & Company, Inc. 46
Quantity Taxes
A tax rate t makes the price paid by buyers, pb, higher by t from the price received by sellers, ps.
p p tb s
© 2010 W. W. Norton & Company, Inc. 47
Quantity Taxes
Even with a tax the market must clear.
I.e. quantity demanded by buyers at price pb must equal quantity supplied by sellers at price ps.
D p S pb s( ) ( )
© 2010 W. W. Norton & Company, Inc. 48
Quantity Taxes
p p tb s D p S pb s( ) ( )and
describe the market’s equilibrium.Notice these conditions apply nomatter if the tax is levied on sellers or onbuyers.
© 2010 W. W. Norton & Company, Inc. 49
Quantity Taxes
p p tb s D p S pb s( ) ( )and
describe the market’s equilibrium.Notice that these two conditions apply nomatter if the tax is levied on sellers or onbuyers.Hence, a sales tax rate $t has thesame effect as an excise tax rate $t.
© 2010 W. W. Norton & Company, Inc. 50
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
No tax
© 2010 W. W. Norton & Company, Inc. 51
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$t
An excise taxraises the marketsupply curve by $t
© 2010 W. W. Norton & Company, Inc. 52
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
An excise taxraises the marketsupply curve by $t,raises the buyers’price and lowers thequantity traded.
$tpb
qt
© 2010 W. W. Norton & Company, Inc. 53
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
An excise taxraises the marketsupply curve by $t,raises the buyers’price and lowers thequantity traded.
$tpb
qt
And sellers receive only ps = pb - t.
ps
© 2010 W. W. Norton & Company, Inc. 54
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
No tax
© 2010 W. W. Norton & Company, Inc. 55
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
An sales tax lowersthe market demandcurve by $t
$t
© 2010 W. W. Norton & Company, Inc. 56
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
An sales tax lowersthe market demandcurve by $t, lowersthe sellers’ price andreduces the quantitytraded.$t
qt
ps
© 2010 W. W. Norton & Company, Inc. 57
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
An sales tax lowersthe market demandcurve by $t, lowersthe sellers’ price andreduces the quantitytraded.$t
pbpb
qt
pb
And buyers pay pb = ps + t.
ps
© 2010 W. W. Norton & Company, Inc. 58
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
A sales tax levied atrate $t has the sameeffects on themarket’s equilibriumas does an excise taxlevied at rate $t.$t
pbpb
qt
pb
ps
$t
© 2010 W. W. Norton & Company, Inc. 59
Quantity Taxes & Market Equilibrium
Who pays the tax of $t per unit traded?
The division of the $t between buyers and sellers is the incidence of the tax.
© 2010 W. W. Norton & Company, Inc. 60
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
pbpb
qt
pb
ps
© 2010 W. W. Norton & Company, Inc. 61
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
pbpb
qt
pb
ps
Tax paid by buyers
© 2010 W. W. Norton & Company, Inc. 62
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
pbpb
qt
pb
psTax paid by sellers
© 2010 W. W. Norton & Company, Inc. 63
Quantity Taxes & Market Equilibrium
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
pbpb
qt
pb
ps
Tax paid by buyers
Tax paid by sellers
© 2010 W. W. Norton & Company, Inc. 64
Quantity Taxes & Market Equilibrium
E.g. suppose the market demand and supply curves are linear.
D p a bpb b( ) S p c dps s( )
© 2010 W. W. Norton & Company, Inc. 65
Quantity Taxes & Market Equilibrium
andD p a bpb b( ) S p c dps s( ) .
© 2010 W. W. Norton & Company, Inc. 66
Quantity Taxes & Market Equilibrium
and
With the tax, the market equilibrium satisfies
and so
and
D p a bpb b( ) S p c dps s( ) .
p p tb s D p S pb s( ) ( )
p p tb s a bp c dpb s .
© 2010 W. W. Norton & Company, Inc. 67
Quantity Taxes & Market Equilibrium
D p a bpb b( ) S p c dps s( ) . and
With the tax, the market equilibrium satisfies
p p tb s D p S pb s( ) ( )and so
p p tb s a bp c dpb s .and
Substituting for pb gives
a b p t c dp pa c bt
b ds s s
( ) .
© 2010 W. W. Norton & Company, Inc. 68
Quantity Taxes & Market Equilibrium
pa c bt
b ds and p p tb s give
The quantity traded at equilibrium is
q D p S p
a bpad bc bdt
b d
tb s
b
( ) ( )
.
pa c dt
b db
© 2010 W. W. Norton & Company, Inc. 69
Quantity Taxes & Market Equilibrium
pa c bt
b ds
pa c dt
b db
qad bc bdt
b dt
As t 0, ps and pb theequilibrium price ifthere is no tax (t = 0) and qt the quantity traded at equilibriumwhen there is no tax.
ad bcb d
,
*,pdbca
© 2010 W. W. Norton & Company, Inc. 70
Quantity Taxes & Market Equilibrium
pa c bt
b ds
pa c dt
b db
qad bc bdt
b dt
As t increases, ps falls,
pb rises,
and qt falls.
© 2010 W. W. Norton & Company, Inc. 71
Quantity Taxes & Market Equilibrium
pa c bt
b ds
pa c dt
b db
qad bc bdt
b dt
The tax paid per unit by the buyer isp p
a c dtb d
a cb d
dtb db
* .
© 2010 W. W. Norton & Company, Inc. 72
Quantity Taxes & Market Equilibrium
pa c bt
b ds
pa c dt
b db
qad bc bdt
b dt
The tax paid per unit by the buyer isp p
a c dtb d
a cb d
dtb db
* .
The tax paid per unit by the seller isp p
a cb d
a c btb d
btb ds
* .
© 2010 W. W. Norton & Company, Inc. 73
Quantity Taxes & Market Equilibrium
pa c bt
b ds
pa c dt
b db
qad bc bdt
b dt
The total tax paid (by buyers and sellerscombined) is
T tq tad bc bdt
b dt
.
© 2010 W. W. Norton & Company, Inc. 74
Tax Incidence and Own-Price Elasticities
The incidence of a quantity tax depends upon the own-price elasticities of demand and supply.
© 2010 W. W. Norton & Company, Inc. 75
Tax Incidence and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
© 2010 W. W. Norton & Company, Inc. 76
Tax Incidence and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
Change to buyers’price is pb - p*.Change to quantitydemanded is q.
q
© 2010 W. W. Norton & Company, Inc. 77
Tax Incidence and Own-Price Elasticities
Around p = p* the own-price elasticityof demand is approximately
Db
q
q
p p
p
*
*
*
© 2010 W. W. Norton & Company, Inc. 78
Tax Incidence and Own-Price Elasticities
Around p = p* the own-price elasticityof demand is approximately
Db
bD
q
q
p p
p
p pq p
q
*
*
*
**
*.
© 2010 W. W. Norton & Company, Inc. 79
Tax Incidence and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
© 2010 W. W. Norton & Company, Inc. 80
Tax Incidence and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
Change to sellers’price is ps - p*.Change to quantitydemanded is q.
q
© 2010 W. W. Norton & Company, Inc. 81
Tax Incidence and Own-Price Elasticities
Around p = p* the own-price elasticityof supply is approximately
Ss
q
q
p p
p
*
*
*
© 2010 W. W. Norton & Company, Inc. 82
Tax Incidence and Own-Price Elasticities
Around p = p* the own-price elasticityof supply is approximately
Ss
sS
q
q
p p
p
p pq p
q
*
*
*
**
*.
© 2010 W. W. Norton & Company, Inc. 83
Tax Incidence and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
pbpb
qt
pb
ps
Tax paid by buyers
Tax paid by sellers
© 2010 W. W. Norton & Company, Inc. 84
Tax Incidence and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
pbpb
qt
pb
ps
Tax paid by buyers
Tax paid by sellers
Tax incidence = p p
p pb
s
*
*.
© 2010 W. W. Norton & Company, Inc. 85
Tax Incidence and Own-Price Elasticities
Tax incidence = p p
p pb
s
*
*.
p pq p
qb
D
*
*
*.
p p
q p
qs
S
*
*
*.
© 2010 W. W. Norton & Company, Inc. 86
Tax Incidence and Own-Price Elasticities
Tax incidence = p p
p pb
s
*
*.
p pq p
qb
D
*
*
*.
p p
q p
qs
S
*
*
*.
So p p
p pb
s
S
D
*
*.
© 2010 W. W. Norton & Company, Inc. 87
Tax Incidence and Own-Price Elasticities
p p
p pb
s
S
D
*
*.
Tax incidence is
The fraction of a $t quantity tax paidby buyers rises as supply becomes moreown-price elastic or as demand becomesless own-price elastic.
© 2010 W. W. Norton & Company, Inc. 88
Tax Incidence and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
As market demandbecomes less own-price elastic, taxincidence shifts moreto the buyers.
© 2010 W. W. Norton & Company, Inc. 89
Tax Incidence and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
As market demandbecomes less own-price elastic, taxincidence shifts moreto the buyers.
© 2010 W. W. Norton & Company, Inc. 90
Tax Incidence and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
ps= p*
$tpb
qt = q*
As market demandbecomes less own-price elastic, taxincidence shifts moreto the buyers.
© 2010 W. W. Norton & Company, Inc. 91
Tax Incidence and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
ps= p*
$tpb
qt = q*
As market demandbecomes less own-price elastic, taxincidence shifts moreto the buyers.
When D = 0, buyers pay the entire tax, even though it is levied on the sellers.
© 2010 W. W. Norton & Company, Inc. 92
Tax Incidence and Own-Price Elasticities
p p
p pb
s
S
D
*
*.
Tax incidence is
Similarly, the fraction of a $t quantitytax paid by sellers rises as supplybecomes less own-price elastic or asdemand becomes more own-price elastic.
© 2010 W. W. Norton & Company, Inc. 93
Deadweight Loss and Own-Price Elasticities
A quantity tax imposed on a competitive market reduces the quantity traded and so reduces gains-to-trade (i.e. the sum of Consumers’ and Producers’ Surpluses).
The lost total surplus is the tax’s deadweight loss, or excess burden.
© 2010 W. W. Norton & Company, Inc. 94
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
No tax
© 2010 W. W. Norton & Company, Inc. 95
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
No taxCS
© 2010 W. W. Norton & Company, Inc. 96
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
No tax
PS
© 2010 W. W. Norton & Company, Inc. 97
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
No taxCS
PS
© 2010 W. W. Norton & Company, Inc. 98
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
No taxCS
PS
© 2010 W. W. Norton & Company, Inc. 99
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
CS
PS
The tax reducesboth CS and PS
© 2010 W. W. Norton & Company, Inc. 100
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
CS
PS
The tax reducesboth CS and PS,transfers surplusto government
Tax
© 2010 W. W. Norton & Company, Inc. 101
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
CS
PS
The tax reducesboth CS and PS,transfers surplusto government
Tax
© 2010 W. W. Norton & Company, Inc. 102
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
CS
PS
The tax reducesboth CS and PS,transfers surplusto government
Tax
© 2010 W. W. Norton & Company, Inc. 103
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
CS
PS
The tax reducesboth CS and PS,transfers surplusto government,and lowers total surplus.
Tax
© 2010 W. W. Norton & Company, Inc. 104
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
CS
PSTax
Deadweight loss
© 2010 W. W. Norton & Company, Inc. 105
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps Deadweight loss
© 2010 W. W. Norton & Company, Inc. 106
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
Deadweight loss fallsas market demandbecomes less own-price elastic.
© 2010 W. W. Norton & Company, Inc. 107
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
p*
q*
$tpb
qt
ps
Deadweight loss fallsas market demandbecomes less own-price elastic.
© 2010 W. W. Norton & Company, Inc. 108
Deadweight Loss and Own-Price Elasticities
p
D(p), S(p)
Marketdemand
Marketsupply
ps= p*
$tpb
qt = q*
Deadweight loss fallsas market demandbecomes less own-price elastic.
When D = 0, the tax causes no deadweight loss.
© 2010 W. W. Norton & Company, Inc. 109
Deadweight Loss and Own-Price Elasticities
Deadweight loss due to a quantity tax rises as either market demand or market supply becomes more own-price elastic.
If either D = 0 or S = 0 then the deadweight loss is zero.
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