1. AP MICROECONOMICS Deadweight Loss and Inefficiency
Mr. Lindquist
Unit #2

2. What You Will Learn Today
Identify the role of excise tax on equilibrium prices and consumer/producer surplus
Graph and explain Tax Revenue
Apply and Practice applying concepts on a FRQ (From 2005 AP Test)
HOMEWORK: Read and Outline Section 9 Module 46
What You Will Learn Today
Section 2 | Module 9

3. Agenda 3 Question Quiz (formative check) – Warm-up
Review Concepts and take refresher notes on Consumer/Producer Surplus & Deadweight Loss (Notes)
Graphing Practice with Tax example
Apply the graphing concepts in a Practice FRQ (2005 AP College Board Test)

4. Total Surplus
Section 9 | Module 50

5. Controlling Quantities
A quantity control, or quota, is an upper limit on the quantity of some good that can be bought or sold.
A license gives its owner the right to supply a good.
The demand price of a given quantity is the price at which consumers will demand that quantity.
The supply price of a given quantity is the price at which producers will supply that quantity.
Section 2 | Module 8

6. Deadweight Loss
“Losses associated with quantities of output that are greater than or les than the efficient level, as can result from market intervention such as, taxes.”
What can cause this inefficiency?

7. Deadweight Loss Caused by a Quota
A fixed quantity limit set by the government
Price
QUOTA Amount
SUPPLY = MSC 25 20 15 10 5
DEMAND = MSB
Quantity of Taxi Rides 53

8. F Y I The Clams of New Jersey
In the 1980s, excessive fishing threatened to wipe out New Jersey’s clam beds.
To save the resource, the U.S. government introduced a clam quota.
This set an overall limit on the number of bushels of clams to be caught and allocated licenses to owners of fishing boats based on their historical catches.
Section 2 | Module 8

9. Minimum Wage (Price Floor)

10. Deadweight Loss Caused by a Price Ceiling
SUPPLY = MSC
2500
2000
1500
1000
Price CEILING
500
DEMAND = MSB
Quantity of Apartments 53

11. The Effects of Taxes on Total Surplus
An excise tax is a tax on sales of a good or service.
Excise taxes:
raise the price paid by buyers.
reduce the price received by sellers.
Excise taxes also drive a wedge between the two.
Examples: Excise tax levied on sales of taxi rides and excise tax levied on purchases of taxi rides.
Section 9 | Module 50

12. EXAMPLE

13. Deadweight Loss Caused by a Tax
SUPPLY with TAX
Price
SUPPLY = MSC
2.50
Per-unit Tax
2.00
1.50
1.00
0.50
DEMAND = MSB
Quantity of Soda 53

14. Who pays for the tax?
The incidence of a tax is a measure of who really pays it.
Who really bears the tax burden does not depend on who officially pays the tax.
The wedge between the demand price and supply price becomes the government’s “tax revenue.”

15. The Revenue from an Excise Tax
The general principle: The revenue collected by an excise tax is equal to the area of the rectangle whose height is the tax wedge between the supply and demand curves and whose width is the quantity transacted under the tax.
Section 9 | Module 50

16. The Revenue from an Excise Tax
Figure Caption: Figure 14.5 (50.5): The Supply and Demand for Hotel Rooms in Potterville
In the absence of taxes, the equilibrium price of hotel rooms is $80 a night, and the equilibrium number of rooms rented is 10,000 per night, as shown by point E. The supply curve, S, shows the quantity supplied at any given price, pre-tax. At a price of $60 a night, hotel owners are willing to supply 5,000 rooms, point B. But post-tax, hotel owners are willing to supply the same quantity only at a price of $100: $60 for themselves plus $40 paid to the city as tax.
Section 9 | Module 50

17. A Tax Reduces Consumer and Producer Surplus
Figure Caption: Figure 14.5 (50.5): The Supply and Demand for Hotel Rooms in Potterville
In the absence of taxes, the equilibrium price of hotel rooms is $80 a night, and the equilibrium number of rooms rented is 10,000 per night, as shown by point E. The supply curve, S, shows the quantity supplied at any given price, pre-tax. At a price of $60 a night, hotel owners are willing to supply 5,000 rooms, point B. But post-tax, hotel owners are willing to supply the same quantity only at a price of $100: $60 for themselves plus $40 paid to the city as tax.
Section 9 | Module 50

18. The Costs of Taxation
A fall in the price of a good generates a gain in consumer surplus.
Similarly, a price increase causes a loss to consumers.
So it’s not surprising that, in the case of an excise tax, the rise in the price paid by consumers causes a loss.
Meanwhile, the fall in the price received by producers leads to a fall in producer surplus.
A tax reduces both, the CS and the PS.
Section 9 | Module 50

19. The Deadweight Loss of a Tax
Figure Caption: Figure 14.5 (50.5): The Supply and Demand for Hotel Rooms in Potterville
In the absence of taxes, the equilibrium price of hotel rooms is $80 a night, and the equilibrium number of rooms rented is 10,000 per night, as shown by point E. The supply curve, S, shows the quantity supplied at any given price, pre-tax. At a price of $60 a night, hotel owners are willing to supply 5,000 rooms, point B. But post-tax, hotel owners are willing to supply the same quantity only at a price of $100: $60 for themselves plus $40 paid to the city as tax.
Section 9 | Module 50

20. EXAMPLE

21. International Trade?
How does International Trade affect consumer and producer surplus?

22. Tariffs
A tax imposed on imported goods and services. Tariffs are used to restrict trade, as they increase the price of imported goods and services, making them more expensive to consumers.
Tariffs provide additional revenue for governments and domestic producers at the expense of consumers and foreign producers

23. Quotas on imports
Limit the quantity of goods or services imported from foreign producers.
Why?
Meant to help domestic producers
Restrict trade…but government does not collect revenue (like they do with tariff)