1. Chapter 18 Public Finance: Expenditures and Taxes Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.

2. 18-2 Government and the Circular Flow (1) Costs RESOURCE MARKET PRODUCT MARKET BUSINESSES H OUSEHOLDS (4) Goods and services (7) Expenditures (8) Resources (9) Goods and services (4) Goods and services (10) Goods and services Net taxes (12) Net taxes (11) (3) Consumption expenditures (3) Revenues GOVERNMENT (2) Land, labor, capital Entrepreneurial Ability (2) Resources (5) Expenditures (6) Goods and services LO1

3. 18-3 Government Finance Government purchases Exhaustive Transfer payments Nonexhaustive Borrowing and deficit spending Opportunity cost is low during recession; high during growth LO2

4. 18-4 Government Finance 19.6% 40 35 30 25 20 15 10 5 0 2012 1960 Government Purchases Government transfer payments 22% 15.3% 5% Year Percentage of U.S. output Government purchases, transfers, and total spending as percentages of U.S. output, 1960 and 2012 LO2

5. 18-5 Global Perspective LO2

6. 18-6 Federal Expenditures LO3

7. 18-7 Federal Tax Revenues Personal income tax Progressive tax Marginal tax rate Payroll taxes Corporate income tax Excise taxes LO3

8. 18-8 Federal Tax Revenues (1) Total Taxable Income (2) Marginal Tax Rate, % (3) Total Tax on Highest Income in Bracket (4) Average Tax Rate on Highest Income in Bracket % (3) / (1) $1-$17,85010$ 178510 $17,851-$72,50015998314 $72,501-$146,4002528,45819 $146,401-$223,0502849,92022 $223,051-$398,35033107,76927 $398,351-$450,00035125,84728 $450,001 and above39.6 Federal Personal Tax Rates, 2013* * For a married couple filing a joint return LO3

9. 18-9 State Finances LO4

10. 18-10 Local Finances LO4

11. 18-11 Local, State, and Federal Employment LO5

12. 18-12 Apportioning the Tax Burden Size, distribution, and impact of the costs that taxes impose on society Benefits-received principle Ability-to-pay principle LO6

13. 18-13 Apportioning the Tax Burden Progressive tax – average tax rates increase as income increases Regressive tax – average tax rate declines as income increases Proportional tax – average rate stays the same as income increases LO6

14. 18-14 Apportioning the Tax Burden Applications Personal income tax: progressive Sales tax: regressive Corporate tax: proportional Payroll tax: regressive LO6

15. 18-15 Tax Incidence and Efficiency Loss Tax incidence Who really pays the tax? Excise tax Tax burden depends on elasticity Inelastic vs. elastic Efficiency loss/deadweight loss Transfer of surplus to government LO7

16. 18-16 Elasticity and Tax Incidence Price (Per Bottle) Quantity (Millions of Bottles Per Month) S D StSt Tax $2 LO7

17. 18-17 Elasticity and Tax Incidence Elastic Demand Inelastic demand Tax a b c a b 0 Q2Q2 P1P1 Q1Q1 P PePe Smaller efficiency loss with inelastic demand StSt S DeDe DiDi c S Tax StSt P1P1 P PbPb Q2Q2 Q1Q1 PaPa P LO7

18. 18-18 Elasticity and Tax Incidence Elastic SupplyInelastic Supply Smaller efficiency loss with inelastic supply D D S SStSt StSt P1P1 PaPa PePe P1P1 PbPb PiPi Q1Q1 Q2Q2 Q1Q1 Q2Q2 Tax a a b b c c 0 P P 0 Q Q LO7

19. 18-19 Efficiency Loss of a Tax Price (Per Bottle) Quantity (Millions of Bottles Per Month) S D StSt Tax $2 Tax paid by consumers 510152025 Q P 14 12 10 8 6 4 2 0 Tax paid by producers Efficiency loss (or deadweight loss) LO7

20. 18-20 Global Perspective LO8

21. 18-21 Probable Incidence of U.S. Taxes Type of taxProbable Incidence Personal income tax The household or individual on which it is levied Payroll taxesWorkers pay the full tax levied on their earnings and part of the tax levied on their employers Corporate income tax Short Run: Full tax falls on owners of the businesses Long Run: Some of the tax may be borne by workers through lower wages Sales taxConsumers who buy the taxed products Specific excise taxes Consumers, producers or both, depending on elasticities of supply and demand Property TaxesOwners in the case of land and owner-occupied residences, tenants in the case of rented property, consumers in the case of business property LO8

22. 18-22 The U.S. Tax Structure The Federal tax system is progressive. The state and local tax structures are largely regressive The overall U.S. tax system is progressive LO8

23. 18-23 Redistribution vs. Recycling Distribution of income Taxes taken from the rich Do they to flow to the poor? Shows income is transferred to the poor Bottom 40% received more government spending than they paid in taxes Top 40% paid more in taxes than they received in government spending

24. 18-24 Redistribution vs. Recycling