Taxes on Producers- Micro Topic 2.8 - Hey, how are you, good econ students? This is Mr. Clifford. Welcome to AC/DC Econ. Right now, we're going to talk about taxes. (SINGING) The government takes efficiency breaks deep in the heart of taxes. [ROCK MUSIC] Now you've learned about supply and demand, and consumer surplus, and producer surplus. It's time to put all those things together and talk about taxes. A per-unit tax, or an excise tax, is a tax on producers. So right here, let's have the supply and demand for some random product. Let's say, milk. Paul, why are we doing milk? No more milk. So we've got the supply and demand for milk. And let's say the equilibrium is right here at $3. If the government put a per-unit excise tax on milk of $2 per unit, that would cause the supply curve to shift to the left. That would cause supply to shift to the left. But there are some more details that you actually have to watch out for. As you can see, the price that consumers pay is now $4. But I want you to notice, the price didn't go up to $5, right? It was a $2 tax. And the price before it was $3. But the new price isn't $5. That's because the consumers and the producers pay a portion of this tax. The price that consumers pay is now, right here, $4. But the producers don't get that $4. Remember, they have to pay a $2 tax. So they don't get $4, they get only $2. The way you can spot this is by looking at the vertical distance between these two supply curves. That tells you the per-unit amount of the tax. So that vertical distance is $2, and so the producers only get to keep $2 of the $4 consumers pay. Where do the other $2 go? Well, to the government. That $2 tax, times the new quantity of 80, represents the $160 of tax revenue that goes to the government. And the reason why there's this tax wedge is because now there's three people involved with this transaction. Before the tax, it was just consumers and producers. But now, it's consumers, producers, and the government. So the total expenditures, or spending, on milk is $4 times 80. That big box is spent total on milk. And this right here, the $160-- 2 times 80-- is how much the government gets to keep. And the other $160 right there is how much the producers get to keep of the money consumer spent. Now, let's ask a new question. What happened to consumer surplus when there was a shift in the supply and the price went up? Remember, consumer surplus is the difference between what people are willing to pay for something, and what they actually did pay. So it's this triangle right here, before the tax. After the tax, it's this triangle right here, right? When the price goes up, it screws over consumers. Producer surplus also got smaller, right? When the supply shifted left, and the price that producers got was only $2, that producer surplus is right there. So the consumer surplus is there, producer surplus is there, and that right there is the government tax revenue. So what about this old triangle of consumer and producer surplus that used to exist? Well, that's called dead weight loss. If the government taxes something like milk, and the quantity that society actually wants-- the socially optimal quantity-- is 100, and they tax it, it's going to decrease efficiency. It's going to cause a decrease in total surplus. So taxes on some products will lead to inefficiency. Let's try it again, except this time I changed the slope of the demand curve. I've made it more inelastic. As you can see, the original price was $12, and the original quantity was 12. Then the government came in and put a tax, causing the supply curve to shift to the left. Now I want you to answer these questions. Pause the video, and I'll go over them. The first question is the tax per unit. To figure it out, it's the vertical distance between the supply curves. So this is a $3 tax. Don't assume it's a $2 tax, because that's what happened to price, right? Price went up $2. Remember, consumers and producers share this tax. The tax revenue is $30. It's a $3 tax per unit, times the 10 quantity, which is that box right there. The total amount of tax revenue paid by consumers is $20. This is the $2 more that consumers pay per unit, times the 10 unit output. Since the total tax revenue is $30, then the tax the producers must be paying must be 10 bucks. The producers used to get $12, and now they only get $11, so they get $1 less than before. 1 times 10 is the $10 of total tax revenue the producers pay. Notice that the consumers and the producers do not share this tax equally. It's because the demand curve is relatively inelastic compared to the supply curve. Total expenditures, or spending after the tax, is the $14 times 10, or $140. The total revenue to firm is how much firms get to keep. Well, they don't get to keep $14 per unit. Remember, they only get to keep $11, because the $3 per unit goes to the government. So $11 times 10 gives you $110 revenue that goes to firms. Bonus round. It's really easy to get confused about this idea of producers and consumers sharing a tax. You would think that, if there's a tax, then consumers just pay all of it. But as you can see from the graph, that's not the case. To help you understand this concept, I'm going to show you some graphs. So let me get out of the way and I'll show you what's going on. Right now, you're looking at the demand curve, with different elasticities. You got perfectly inelastic, relatively inelastic, unit elastic, relatively elastic, and perfectly elastic. Now what I'm going to do is put a supply curve on each one of these demand curves that is unit elastic. And I'm going to put the same per-unit tax on every single one of these demand curves. The boxes right here are the total tax revenue that goes to government, and it shows you who's paying the tax. When the demand is perfectly inelastic, then the consumers pay all of the tax. Producers pay none of it. When the demand is relatively inelastic, the consumers pay the majority of the tax-- just like the question we saw earlier. When the demand and the supply have the same elasticity, then consumers and producers share the tax equally. When the demand is more elastic than the supply, than producers are going to pay more of the tax. And when the demand is horizontal, or perfectly elastic, the producers are going to pay all of that tax. The best way to remember all this stuff is to just draw the graph. Show the different ideas of elastic and inelastic and draw that tax revenue box. Then you can look at it, and it tells you who pays the majority of the tax. Dang, Mr. Clifford, this is awesome. Hey, I hope this video helped you understood taxes. Take a look at the next video that's going to talk about consumer choice and utility maximization. Also, take a look at my review for the AP exam. All right, until next time.