Indirect taxes and subsidies

Chapter 12

Taxes and Subsidies

An indirect tax is….

A subsidy is….

How do we show taxes and subsidies on diagrams

Taxes and subsidies affect the supply curve of a diagram. A tax shifts the supply curve to the left, a subsidy shifts the supply curve to the right.

Ad Valorem Tax

This is a tax levied as a percentage as a value or price of the good. So the higher the price the higher the tax.

Specific or unit tax

This tax is based on the quantity sold. That is why it is per unit, not based on the value. Cigarettes, alcohol and petrol are all subject to both an ad valorem tax and a specific tax.

Is anything free from VAT?

Is anything free from VAT?

Most food, not crisps, icecream, soft drinks and restaurant meals.

Education and educational books.

Animal feeds – if the animals are ultimately for human consumption.

Health products.

Gambling

Newspapers

Calculating government revenue

Cigarettes are £5 per packet. 50% of that is tax. Draw a supply and demand curve for cigarettes showing the government revenue.

Excise duty – a tax placed on a good in addition to the basic VAT. Cigarettes, alcohol and petrol are the three lucky recipients of excise duties.

VAT and excise duties

Indirect taxes.

VAT – ad valorem tax (according to the value)

Excise tax – specific or per unit tax

Subsidy

A subsidy is the opposite of a tax used by the government to encourage certain industries and products. A subsidy has the effect of shifting the supply curve to the right.

The product below (corn) receives a generous government subsidy. Show the effect on the diagram.

Why would a government subsidise a product?

Why would a government subsidise a product?

Protect jobs

Win votes

Good for the environment

Improves people‘s health

Protect a lifestyle (farming, fishing)

Incidence of tax

Burden of tax – who carries the burden of the tax.

Incidence of tax in a diagram.

Elastic and Inelastic goods

Inelastic goods – the incidence of the tax falls on the consumer. Cigarettes are inelastic. If the government imposed a 1 chf specific tax on a packet of cigarettes, who would carry the burden – the smokers or the cigarette companies?

VAT increase in the UK.

Be aware of the following fact.

The UK VAT rate is increasing from 17.5% to 20%. How will that affect…

A) television salesmen

B) women‘s boutique

C) publicans

D) the manager of a luxury spa