Taxes and Subsidies

What are Taxes

 An indirect tax is imposed upon expenditure. It is
placed upon the selling price of a product, so it
raises the firm’s costs and shifts the supply curve.

There are generally t w o t ypes of indirect S+tax
t axes: S
v Price A specific tax
vA Specific t ax: There is only fixed
am ount of t ax which is im posed upon a
product . Quantity
v
vA Percent age t ax: There is a specific S+tax

percent age of t ax w hich is im posed Price S1

upon t he product . A percentage tax
v

Quantity
 What are Subsidies
 A Subsidy is an amount of money paid by the
government to a firm, per unit of output

There are num ber of reasons w hy

governm ent gives subsidies t o t he firm :
S1

vTo lower t he price of essent ial goods. S1-Subsidy

vTo guarant ee t he supply of product t hat t he Price
governm ent t hinks are necessary for t he
econom y.
vTo enable producers t o com pet e wit h
overseas t rade, t hus prot ect ing t he hom e Quantity Supplied
indust ry.
 The Granting of Specific Subsidy
on a product
However, t he percent age subsidies are rare, and so we will see t he
effect s of specific subsidy

Increase in Producers Change in consumers Amount of government

Revenue Expensiture Subsidy

S1 S1 S1
D Pe P1 W
D Pe P1 P2
W D Pe P1 P2
X S1-subsidy S1- subsidy
Price Price X S1-subsidy
Price
Y
Z Z

D
D D

Qe Q1 Qe Q1 Qe Q1
Quantity supplied Quantity Supplied Quantity Supplied
 Rules Relating to the Granting of
Subsidy
 Where the value of PED is S1
equal to the value of PES D
Y

for a product then the price Pe

P1 X
P2
S1- subsidy
of the product will fall by Price W
half of the subsidy.
 Where the value of PED is D
greater than the value of
PES for a product then the Qe Q1
price of the product will fall Quantity
by less than half of the
S1
subsidy.
 Where the value of PED is less
D Pe P1 P2

S1- subsidy
Y
than the value of PES for a X

product then the price of W

the product will fall by
more than half of the
D
subsidy
Qe Q1
Quantity