UNIT 3: MACROECONOMICS: INSTITUTIONS LECTURE #2: SOURCES OF GOVERNMENT REVENUE

KEY TERMS:

Sin tax Tax loophole Sales tax Proportional tax Progressive tax Marginal tax rate Regressive tax

OBJECTIVE(S):

Students will be able to explain the economic impact of taxes

List three criteria for effective taxes Understand the two primary principles of

taxation Understand how taxes are classified

I. ECONOMIC IMPACT OF TAXES

I. ECONOMIC IMPACT OF TAXES

B. Behavior Adjustment 1. Taxes often used to encourage or discourage

certain types of activities Ex: tax deduction allowed on home interest loans

(what is this meant to encourage) Home Ownership

Ex: No Tax deduction for credit card interest rates Discourage use of credit cards’

2. Sin Tax – a relatively high tax designed to raise revenue and reduce consumption of some undesirable product like alcohol or tobacco Tobacco seems to be inelastic in U.S. , why?

Addictive behavior

I. ECONOMIC IMPACT OF TAXES

C. Productivity and Growth 1. Some people today think taxes are too high

and that it affects their incentive to work D. Incidence of Tax

1. The final burden of the tax 2. the more elastic the demand = the greater the

portion of the tax that will be absorbed by the producer

3. The more inelastic demand – the greater the portion of the tax will be absorbed by the consumer.

II. CRITERIA FOR EFFECTIVE TAXES

A. The 3 criteria for taxes to be effective 1. Equity (Fairness):

What is seem as unfair are loopholes (exceptions or oversights in the tax law that allow some people and business to avoid paying taxes)

2. Simplicity – have to be understood by all Individual income tax – most people hate them

because they are hard to understand. Sales Tax – This is simple and understandable

everyone pays 3. Efficiency – easy to administer / successful

generator of income Individual income tax is easy to administer Ex: of Unsuccessful (luxury tax on private aircraft

1991)

LETS CREATE A GRAPHIC ORGANIZER DEPICTING THE CRITERIA FOR TAXES TO BE EFFECTIVE

Taxes

III. TWO PRINCIPLES OF TAXATION

1. Benefit Principle A. those who benefit from government goods and

services should pay in proportion to the amount of benefits they receive (ex: Gas Tax – those who drive more on roads bare the

burden of the gas tax) (ex: Tire tax – Truckers pay more for tires they damage

roads more thus pay for it) B. Two Limitations of this Principle: 1. Many who receive the benefit are the least able to

afford them like Welfare 2. Benefits are often hard to measure

III. TWO PRINCIPLES OF TAXATION

2. Ability-To-Pay Principle The wealthier suffer less discomfort paying more

than people with lower incomes

IV. TYPES OF TAXES

A. Proportional Tax 1. imposes the same percentage rate of taxation

on everyone regardless of income B. Progressive Tax

1. that imposes a higher percentage rate of taxation on persons with higher incomes

2. Usually use a marginal tax rate (percentage of income paid in taxes increases as income goes up)

C. Regressive Tax 1. imposes higher percentage rate of taxation on

low incomes than on high incomes