Holt 7525-9 S15_IT

Because the demand curve is more elastic, the number of units exchanged has been reduced
more than before. In the graph in Example 15, the number of units exchanged was reduced from
15 to 10 by the $2 tax. In the graph in Example 16, the number of units exchanged is reduced
from 15 to 7 by the $2 tax. Thus, the deadweight loss of the tax is greater because the demand
curve is more elastic.
Likewise, if the supply curve were more elastic, the deadweight loss of the tax would be greater. If
the demand curve or the supply curve were less elastic, the deadweight loss of the tax would be
less.
Another factor that affects the size of the deadweight loss of a tax is the tax rate. As was
explained in Chapter 13, low tax rates help to minimize the effect of the tax on the decisions
made in the private market. Thus, a lower tax rate will mean a smaller deadweight loss. A higher
tax rate will mean a larger deadweight loss.
Example 17: The graph below is the same as the graph in Example 15, except that the tax rate is
higher. A tax of $3 per unit is imposed instead of a tax of only $2 per unit. The graph illustrates
that the higher tax rate has a larger effect on the decisions made in the private market. The
number of units exchanged is reduced from 15 to 7 by the $3 per unit tax. The $2 per unit tax of
Example 15 only decreased the number of units exchanged from 15 to 10. The deadweight loss
imposed by the $3 per unit tax is larger than the deadweight loss imposed by the $2 per unit tax
of Example 15.
$7 -
6 -
5 -
Price 4 -
3 -
2 -
1 -
CS
Tax
Revenue
PS
Deadweight
Loss
0
0 5 10 15 20 25 30
Quantity
Tax
Appendix: Think Like an Economist – An Increase in the Gasoline Tax
The federal government imposes a tax on gasoline of 18.4 cents per gallon. The fifty states also
impose gasoline taxes which range from 8 cents per gallon in Alaska to over 50 cents per gallon
in New York. Let’s say that the federal government decides to increase the federal gasoline tax
by 50 cents per gallon. In the short run, would this increased tax likely create a relatively large
deadweight loss or a relatively small deadweight loss? Why?
FOR REVIEW ONLY - NOT FOR DISTRIBUTION
S 2
S
D
Elasticity 17 - 12