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									EC 101.03                            Exercises for Chapter 8                           FALL 2010

1. Suppose that instead of a supply-demand diagram, you are given the following information:
Qs = 100 + 3P
Qd = 400 - 2P
From this information compute equilibrium price and quantity. Now suppose that a tax is placed on
buyers so that
Qd = 400 - (2P + T).
If T = 15, solve for the new equilibrium price and quantity. (Note: P is the price received by sellers and
P + T is the price paid by buyers.) Compare these answers for equilibrium price and quantity with your
first answers. What does this show you?
ANS:
Prior to the tax, the equilibrium price would be $60 and the equilibrium quantity would be 280. After
the tax is imposed, P, the price received by sellers would be $57. The price paid by buyers would be
$72. The quantity sold would be 271. The new answer shows three obvious facts. First, buyers pay
more with a tax. Second, sellers receive less with a tax. Third, the size of the market shrinks when a
tax is imposed on a product.


2. When a good is taxed,
      a.   both buyers and sellers of the good are made worse off.
      b.   only buyers are made worse off, because they ultimately bear the burden of the tax.
      c.   only sellers are made worse off, because they ultimately bear the burden of the tax.
      d.   neither buyers nor sellers are made worse off, since tax revenue is used to provide goods and
           services that would otherwise not be provided in a market economy.
ANS: A

3. A tax placed on buyers of tires shifts the
      a. demand curve for tires downward, decreasing the price received by sellers of tires and
           causing the quantity of tires to increase.
      b. demand curve for tires downward, decreasing the price received by sellers of tires and
           causing the quantity of tires to decrease.
      c. supply curve for tires upward, decreasing the effective price paid by buyers of tires and
           causing the quantity of tires to increase.
      d. supply curve for tires upward, increasing the effective price paid by buyers of tires and
           causing the quantity of tires to decrease.
ANS: B

4. A $2.00 tax per gallon of paint placed on the sellers of paint will shift the supply curve
      a. downward by exactly $2.00.
      b. downward by less than $2.00.
      c. upward by exactly $2.00.
      d. upward by less than $2.00.
ANS: C

5. When a tax is levied on a good,
     a. government revenues exceed the loss in total welfare.
     b. there is a decrease in the quantity of the good bought and sold in the market.
     c. the price that sellers receive exceeds the price that buyers pay.
     d. All of the above are correct.
ANS: B

6.    Which of the following quantities decrease in response to a tax on a good?
      a. the equilibrium quantity in the market for the good, the effective price of the good paid by
         buyers, and consumer surplus
      b. the equilibrium quantity in the market for the good, producer surplus, and the well-being of
         buyers of the good
      c. the effective price received by sellers of the good, the wedge between the effective price paid


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           by buyers and the effective price received by sellers, and consumer surplus
      d.   None of the above is necessarily correct unless we know whether the tax is levied on buyers
           or on sellers.
ANS: B

7. For a good that is taxed, the area on the relevant supply-and-demand graph that represents
      government’s tax revenue is
      a. smaller than the area that represents the loss of consumer surplus and producer surplus
           caused by the tax.
      b. bounded by the supply curve, the demand curve, the effective price paid by buyers, and the
           effective price received by sellers.
      c. a right triangle.
      d. a triangle, but not necessarily a right triangle.
ANS: A

8. Taxes cause deadweight losses because they
      a. lead to losses in surplus for consumers and for producers that, when taken together, exceed
          tax revenue collected by the government.
      b. distort incentives to both buyers and sellers.
      c. prevent buyers and sellers from realizing some of the gains from trade.
      d. All of the above are correct.
ANS: D

9. For good X, the supply curve is the typical upward-sloping straight line, and the demand curve is the
      typical downward-sloping straight line. A tax of $10 per unit is imposed on good X. The tax
      reduces the equilibrium quantity in the market by 200 units. The deadweight loss from the tax is
      a. $2,000.
      b. $1,000.
      c. $500.
      d. $250.
ANS: B

10. In the market for widgets, the supply curve is the typical upward-sloping straight line, and the
      demand curve is the typical downward-sloping straight line. The equilibrium quantity in the
      market for widgets is 200 per month when there is no tax. Then a tax of $5 per widget is
      imposed. As a result, the government is able to raise $750 per month in tax revenue. We can
      conclude that the post tax quantity of widgets is
      a. 50 per month.
      b. 75 per month.
      c. 100 per month.
      d. 150 per month.
ANS: D




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Figure 8-2
The vertical distance between points A and B represents a tax in the market.
                Price

      12

      11

      10                                                  Supply
                            A
       9

       8

       7

       6

       5

       4
                            B
       3

       2

       1
                                                          Demand
                 0.5    1       1.5   2   2.5   3   3.5   4   4.5   5   Quantity



11.        Refer to Figure 8-2. The imposition of the tax causes the quantity sold to
           a. increase by 1 unit.
           b. decrease by 1 unit.
           c. increase by 2 units.
           d. decrease by 2 units.
ANS: B
12.        Refer to Figure 8-2. The imposition of the tax causes the price paid by buyers to
           a. decrease by $2.
           b. increase by $3.
           c. decrease by $4.
           d. increase by $5.
ANS: B
13
           a.     decrease by $2.
           b.     increase by $3.
           c.     decrease by $4.
           d.     increase by $5.
ANS: A
14         Refer to Figure 8-2. The amount of the tax on each unit of the good is
           a. $1.
           b. $4.
           c. $5.
           d. $9.
ANS: C
15.        Refer to Figure 8-2. The per-unit burden of the tax on buyers is
           a. $2.
           b. $3.
           c. $4.
           d. $5.
ANS: B
16.        Refer to Figure 8-2. The per-unit burden of the tax on sellers is
           a. $2.
           b. $3.
           c. $4.
           d. $5.


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ANS: A
17.   Refer to Figure 8-2. The amount of tax revenue received by the government is
      a. $2.50.
      b. $4.
      c. $5.
      d. $9.
ANS: C
18.   Refer to Figure 8-2. The amount of deadweight loss as a result of the tax is
      a. $2.50.
      b. $5.
      c. $7.50.
      d. $10.
ANS: A
19.   Refer to Figure 8-2. The loss of consumer surplus as a result of the tax is
      a. $1.50.
      b. $3.
      c. $4.50.
      d. $6.
ANS: C
20.   Refer to Figure 8-2. The loss of producer surplus as a result of the tax is
      a. $1.
      b. $2.
      c. $3.
      d. $4.
ANS: C
21    Refer to Figure 8-2. Consumer surplus without the tax is
      a. $6, and consumer surplus with the tax is $1.50.
      b. $6, and consumer surplus with the tax is $4.50.
      c. $10, and consumer surplus with the tax is $1.50.
      d. $10, and consumer surplus with the tax is $4.50.
ANS: A
22.   Refer to Figure 8-2. Producer surplus without the tax is
      a. $4, and producer surplus with the tax is $1.
      b. $4, and producer surplus with the tax is $3.
      c. $10, and producer surplus with the tax is $1.
      d. $10, and producer surplus with the tax is $3.
ANS: A
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      a.   $10, and total surplus with the tax is $2.50.
      b.   $10, and total surplus with the tax is $7.50.
      c.   $20, and total surplus with the tax is $2.50.
      d.   $20, and total surplus with the tax is $7.50.
ANS: B
24    Refer to Figure 8-2. The loss of consumer surplus associated with some buyers dropping out of
      the market as a result of the tax is
      a. $0.
      b. $1.50.
      c. $3.
      d. $4.50.
ANS: B
25.   Refer to Figure 8-2. The loss of consumer surplus for those buyers of the good who continue to
      buy it after the tax is imposed is
      a. $0.
      b. $1.50.



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      c.   $3.
      d.   $4.50.
ANS: C
26.   Refer to Figure 8-2. The loss of producer surplus associated with some sellers dropping out of
      the market as a result of the tax is
      a. $0.
      b. $1.
      c. $2.
      d. $3.
ANS: B
27.  Refer to Figure 8-2. The loss of producer surplus for those sellers of the good who continue to
     sell it after the tax is imposed is
     a. $0.
     b. $1.
     c. $2.
     d. $3.
ANS: C

Scenario 8-1
Claudia would be willing to pay as much as $100 per week to have her house cleaned. John's
opportunity cost of cleaning Claudia’s house is $70 per week.
28.   Refer to Scenario 8-1. If Claudia pays John $80 to clean her house, Claudia’s consumer surplus
      is
      a. $80.
      b. $30.
      c. $20.
      d. $10.
ANS: C
29.   Refer to Scenario 8-1. If John cleans Claudia's house for $80, John’s producer surplus is
      a. $80.
      b. $30.
      c. $20.
      d. $10.
ANS: D
30.   Refer to Scenario 8-1. Assume Claudia is required to pay a tax of $40 when she hires someone
      to clean her house for a week. Which of the following is correct?
      a. Claudia will now clean her own house.
      b. John will continue to clean Claudia’s house, but his producer surplus will decline.
      c. Total economic welfare (consumer surplus plus producer surplus plus tax revenue) will
           increase.
      d. Claudia will continue to hire John to clean her house, but her consumer surplus will decline.
ANS: A
31.  Refer to Scenario 8-1. Assume Claudia is required to pay a tax of $15 when she hires someone
     to clean her house. Which of the following is true?
     a. Claudia will continue to hire John to clean her house, but her consumer surplus will decline.
     b. John will continue to clean Claudia's house, but his producer surplus will decline.
     c. Total economic welfare (consumer surplus plus producer surplus plus tax revenue) will
          decrease.
     d. All of the above are correct.
ANS: D

32.   Suppose a tax of $5 per unit is imposed on a good, and the tax causes the equilibrium quantity of
      the good to decrease from 200 units to 100 units. The tax decreases consumer surplus by $800
      and decreases producer surplus by $700. The deadweight loss from the tax is
      a. $500.
      b. $1,000.



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     c.   $1,500.
     d.   $2,000.
ANS: B

33.  David walks Carolyn’s dog once a day for $50 per week. Carolyn values this service at $60 per
     week, while the opportunity cost of David’s time is $30 per week. The government places a tax
     of $35 per week on dog walkers. After the tax, what is the total surplus?
     a. $50
     b. $30
     c. $25
     d. $0
ANS: D

34.  Suppose that the government imposes a tax on dairy products. The deadweight loss from this tax
     will likely be greater in the
     a. first year after it is imposed than in the fifth year after it is imposed because demand and
          supply will be more elastic in the first year than in the fifth year.
     b. first year after it is imposed than in the fifth year after it is imposed because demand and
          supply will be less elastic in the first year than in the fifth year.
     c. fifth year after it is imposed than in the first year after it is imposed because demand and
          supply will be more elastic in the first year than in the fifth year.
     d. fifth year after it is imposed than in the first year after it is imposed because demand and
          supply will be less elastic in the first year than in the fifth year.
ANS: D

35.  Assume the supply curve for cigars is a typical, upward-sloping straight line, and the demand
     curve for cigars is a typical, downward-sloping straight line. Suppose the equilibrium quantity in
     the market for cigars is 1,000 per month when there is no tax. Then a tax of $0.50 per cigar is
     imposed. The effective price paid by buyers increases from $1.50 to $1.90 and the effective price
     received by sellers falls from $1.50 to $1.40. The government’s tax revenue amounts to $475 per
     month. Which of the following statements is correct?
     a. The demand for cigars is less elastic than the supply of cigars.
     b. The tax causes a decrease in consumer surplus of $390 and a decrease in producer surplus of
         $97.50.
     c. The deadweight loss of the tax is $12.50.
     d. All of the above are correct.
ANS: D

36.  In which of the following cases is it most likely that an increase in the size of a tax will decrease
     tax revenue?
     a. The price elasticity of demand is small, and the price elasticity of supply is large.
     b. The price elasticity of demand is large, and the price elasticity of supply is small.
     c. The price elasticity of demand and the price elasticity of supply are both small.
     d. The price elasticity of demand and the price elasticity of supply are both large.
ANS: D




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