1. Ch.31 Public Choice Theory and the Economics of Taxation
Jeffrey LaBeach

2. Revealing Preferences through Majority Voting
Public choice Theory: the economic analysis of government decision making, politics, and elections.
Candidates for office offer alternative policy packages, and citizens elect people who they think will make the best decisions of their collective behalf.
Public choice theory demonstrates that majority voting can produce inefficiencies and inconsistencies.

3. Inefficient Voting Outcomes
Majority voting can produce voting outcomes that are inefficient
Projects having greater total benefits than total costs may be defeated, and projects having greater total costs than total benefits may be approved.
Total Benefit= $1150
Total Cost= $900
Total Benefit= $800
Total Cost= $900
Benefit; Tax
$700
Adams
$300 per-person tax
$350
$350
Benson
Conrad
$300
$250
$200
Benson
$100
Conrad
Adams
“YES”
“NO”
“NO”
“NO”
“YES”
“YES”
Inefficient “No” vote
Inefficient “Yes” vote

4. Interest Groups and Logrolling
Ways to resolve the inefficiencies associated with majority voting.
-Interest Groups: those who have a strong preference for a public good may band together into interest groups and use advertisements and direct persuasion to convince others of the merits of that public good.
-Logrolling: the trading of votes to secure favorable outcomes.

5. Paradox of Voting
Paradox of voting: a situation in which society may not be able to rank its preferences consistently through paired-choice majority voting.

6. Median-Voter Model
Median-voter model is the theory that under majority rule the median (middle) voter will be in the dominant position to determine the outcome of an election.
Implications
-The size of government will be largely determined by the median preference
-Some people may “vote with their feet” by moving into political jurisdictions where the median voter’s preferences are closer to their own.

7. Government Failure
Government failure: inefficiency due to certain characteristics of the public sector.
Some characteristics and outcomes:
Special interest
Rent seeking
Limited and Bundled Choice
Bureaucracy and Inefficiency

8. Apportioning the Tax Burden
Benefits-received principle: the idea that those who receive the benefits of goods and services provided by government should pay the taxes required to finance them.
Difficulties:
-How will the government determine the benefits that individuals receive from a public good.
-This principle cannot be logically be applied to income redistribution programs.

9. Progressive, Proportional, and Regressive Taxes
Progressive tax: average tax rate increases as the taxpayer’s income increases. EX: personal income tax
Regressive tax: average tax rate declines as income increases. EX: sales tax
Proportional tax: average tax rate remains the same regardless of the size of income. EX: flat tax

10. Tax Incidence and Efficiency Loss
Tax incidence: the final resting place of a tax
Division of burden
An excise tax of a specified amount, here $2 per unit, shifts the supply curve upward by the amount of the tax per unit: the vertical distance between S and St. This results in a higher price (here $9) to consumers and a lower after-tax price (here $7) to producers. Thus consumers and producers share the burden of the tax in some proportion (here equally at $1 per unit).

11. Elasticities
With a specific supply, the more inelastic the demand for a product, the larger is the portion of the tax shifted to consumers.
Tax incidence and inelastic demand
Tax incidence and elastic demand

12. Elasticities
With a specific demand, the more inelastic the supply, the larger is the portion of the tax borne by producers.
Tax incidence and elastic supply
Tax incidence and inelastic supply

13. Efficiency Loss of a Tax
Efficiency loss of the tax: the loss is society’s sacrifice of net benefit, because the tax reduces production and consumption of the product below their levels of economic efficiency, where marginal benefit and marginal cost are equal.
-For example, tax revenue to the government is $25 million (blue/aqua shaded part). The efficiency loss of the tax arises from the 2.5 million decline in output (orange shaded triangle).