Public Choice Theory and the Economics of Taxation SLIDES PREPARED BY JUDITH SKUCE, GEORGIAN COLLEGE

In this chapter you will learn 18.1 How public preferences are revealed through majority voting 18.2 What government failure is and why it occurs 18.3 Different ways of apportioning the tax burden 18.4 About the efficiency cost of taxes

Chapter 18 Topics 18.1 Revealing Preferences Through Majority Voting 18.2 Government Failure 18.3 Apportioning the Tax Burden 18.4 Tax Incidence & Efficiency Loss

Revealing Preferences Through Majority Voting Inefficient Voting Outcomes illustration: inefficient “no” vote

Inefficient “No” Vote the Nos win! public good can be provided for a total expense of $900 Adams, Benson, & Conrad would share tax equally @$300 Adams: benefit $700 YES Benson: benefit $250  NO Conrad: benefit $200  NO

Inefficient “No” Vote YES Benefit, Tax $300 6 Figure 18-1 $700 Adams © 2005 McGraw-Hill Ryerson Ltd. Microeconomics, Chapter 18 6

Inefficient “No” Vote YES NO Benefit, Tax $300 7 Figure 18-1 $700 $250 Adams Benson © 2005 McGraw-Hill Ryerson Ltd. Microeconomics, Chapter 18 7

Inefficient “No” Vote YES NO NO Benefit, Tax $300 Figure 18-1 $700 $250 NO $200 NO Adams Benson Conrad

The NO vote wins but is inefficient since.... Inefficient “No” Vote Figure 18-1 The NO vote wins but is inefficient since.... $700 YES Benefit, Tax $300 $250 NO $200 NO Adams Benson Conrad

The NO vote wins but is inefficient since.... MSB = $1,150 Inefficient “No” Vote Figure 18-1 The NO vote wins but is inefficient since.... MSB = $1,150 $700 YES Benefit, Tax $300 $250 NO $200 NO Adams Benson Conrad

The NO vote wins but is inefficient since.... MSB > MSC of $900 Inefficient “No” Vote Figure 18-1 The NO vote wins but is inefficient since.... MSB > MSC of $900 $700 YES Benefit, Tax $300 $250 Tax is $300 times 3 NO $200 NO Adams Benson Conrad

How about an inefficient “yes” vote? Inefficient “No” Vote Figure 18-1 The NO vote wins but is inefficient since.... MSB > MSC of $900 How about an inefficient “yes” vote? $700 YES Benefit, Tax $300 $250 Tax is $300 times 3 NO $200 NO Adams Benson Conrad

Inefficient “Yes” Vote Figure 18-1 Benefit, Tax $300 $100 NO Adams Benson Conrad

Inefficient “Yes” Vote Figure 18-1 Benefit, Tax $350 $300 YES $100 NO Adams Benson Conrad

Inefficient “Yes” Vote Figure 18-1 The YES vote wins but is inefficient since.... Benefit, Tax $350 $350 $300 YES YES $100 NO Adams Benson Conrad

Inefficient “Yes” Vote Figure 18-1 The YES vote wins but is inefficient since.... MSB $800 < MSC $900 Benefit, Tax $350 $350 $300 YES YES Tax is $300 times 3 $100 NO Adams Benson Conrad

Revealing Preferences Through Majority Voting Conclusion because majority voting fails to incorporate the strength of the preferences of the individual voter, it may produce economically inefficient outcomes

Revealing Preferences Through Majority Voting Interest Groups & Logrolling Paradox of Voting preferences voting outcomes may not reflect actual preferences illustrated…

Weather warning system weather warning system Table 18-1 Public good Adams Benson Conrad National Defense 1st choice 3rd choice 2nd choice Road Weather warning system Election Voting outcome national defense vs road national defense road vs weather warning system road national defense vs weather warning system weather warning system

Weather warning system weather warning system Table 18-1 Public good Adams Benson Conrad National Defense 1st choice 3rd choice 2nd choice Road Weather warning system Election Voting outcome national defense vs road national defense road vs weather warning system road national defense vs weather warning system weather warning system

Weather warning system weather warning system Table 18-1 Public good Adams Benson Conrad National Defense 1st choice 3rd choice 2nd choice Road Weather warning system Election Voting outcome national defense vs road national defense road vs weather warning system road national defense vs weather warning system weather warning system

Weather warning system weather warning system Table 18-1 Public good Adams Benson Conrad National Defense 1st choice 3rd choice 2nd choice Road Weather warning system Election Voting outcome national defense vs road national defense road vs weather warning system road national defense vs weather warning system weather warning system

Weather warning system weather warning system Table 18-1 Public good Adams Benson Conrad National Defense 1st choice 3rd choice 2nd choice Road Weather warning system Election Voting outcome national defense vs road national defense road vs weather warning system road national defense vs weather warning system weather warning system

seems to indicate national defense preferred to weather warning system Table 18-1 seems to indicate national defense preferred to weather warning system Public good Adams Benson Conrad National Defense 1st choice 3rd choice 2nd choice Road Weather warning system Election Voting outcome national defense vs road national defense road vs weather warning system road national defense vs weather warning system weather warning system

Weather warning system Table 18-1 Public good Adams Benson Conrad National Defense 1st choice 3rd choice 2nd choice Road Weather warning system but a direct vote indicates this is not the case Election Voting outcome national defense vs road national defense road vs weather warning system road national defense vs weather warning system weather warning system

Revealing Choices Through Majority Voting Median-Voter Model example…

Median-Voter Model Example $800 Median proposal wins Benefit $400 $300 Adams Benson Conrad

Revealing Choices Through Majority Voting Median-Voter Model real-world applicability implications many people will be dissatisfied by the amount of government involvement in the economy some people may “vote with their feet”

Chapter 18 Topics  18.1 Revealing Preferences Through Majority Voting 18.2 Government Failure 18.3 Apportioning the Tax Burden 18.4 Tax Incidence & Efficiency Loss

Government Failure Special Interest & Rent Seeking special-interest effect pork-barrel politics rent-seeking behaviour Clear Benefits, Hidden Costs Limited & Bundled Choice Bureaucracy & Inefficiency Imperfect Institutions

Chapter 18 Topics  18.1 Revealing Preferences Through Majority Voting 18.2 Government Failure 18.3 Apportioning the Tax Burden 18.4 Tax Incidence & Efficiency Loss 

Apportioning the Tax Burden Benefits-Received Principle households & businesses should purchase the goods & services of government Ability-to-Pay Principle tax burden should be apportioned according to taxpayers’ income & wealth Benefits Received vs. Ability to Pay & Health Care

Apportioning the Tax Burden Progressive, Proportional, & Regressive Taxes definitions applications personal income tax sales taxes corporate income tax property taxes

Chapter 18 Topics  18.1 Revealing Preferences Through Majority Voting 18.2 Government Failure 18.3 Apportioning the Tax Burden 18.4 Tax Incidence & Efficiency Loss  

Elasticity & Tax Incidence with a specific supply, the more inelastic the demand for the product, the larger is the portion of the tax shifted to consumers illustrated…

Elasticity & Tax Incidence Tax of $2 per unit S D

Elasticity & Tax Incidence Tax of $2 per unit S shifts up $2 St $2 S D

Elasticity & Tax Incidence Tax of $2 per unit S shifts up $2 How is the tax burden shared? St tax S D

Elasticity & Tax Incidence Equilibrium price rises to $9 St tax S $9 D

Elasticity & Tax Incidence Equilibrium price rises to $9 Consumer’s burden is the amount of the price increase = $1 St tax S $9 D

Elasticity & Tax Incidence Equilibrium price rises to $9 Consumer’s burden is the amount of the price increase = $1 Firm’s burden = tax-consumer’s burden =$2 - $1 = $1 St tax S $9 D

Elasticity & Tax Incidence The more inelastic the demand, the greater the consumer’s burden will be St S S Di Pi tax Pe P1 D De

Elasticity & Tax Incidence with a specific demand, the more inelastic the supply, the larger is the portion of the tax borne by producers illustrated…

Elasticity & Tax Incidence The more inelastic the supply, the smaller the consumer’s burden will be S St Pe tax S P1 D D

Elasticity & Tax Incidence The more inelastic the supply, the smaller the consumer’s burden will be St S S tax Pe Pi P1 D D

Efficiency Loss of a Tax other things equal, the greater the elasticities of supply & demand, the greater the efficiency loss of a particular tax illustrated…

Efficiency Loss of a Tax St tax S tax paid by consumers $9 D

Efficiency Loss of a Tax St tax S $9 tax paid by producers D

Efficiency Loss of a Tax St tax S $9 efficiency loss D

Efficiency Loss of a Tax D' St tax S greater efficiency loss with more elastic demand

Efficiency Loss of a Tax St tax S efficiency loss D

Efficiency Loss of a Tax St tax S greater efficiency loss with more elastic supply D

Tax Incidence & Efficiency Loss Qualifications redistributive goals reducing negative externalities

Tax Incidence & Efficiency Loss Probable Incidence of Taxes in Canada personal income tax corporate income tax sales & excise taxes international comparison…

GLOBAL PERSPECTIVE 18.1

Tax Incidence & Efficiency Loss Probable Incidence of Taxes in Canada personal income tax corporate income tax sales & excise taxes property taxes

Recent Canadian Tax Reform The 1987 Tax Reform The GST Reforms Since 2000

Chapter 18 Topics  18.1 Revealing Preferences Through Majority Voting 18.2 Government Failure 18.3 Apportioning the Tax Burden 18.4 Tax Incidence & Efficiency Loss   