15.5. True or false?

In a two good model if one good is an inferior good the other good must be a luxury good. The income elasticity of demand is used to describe how the quantity demanded responds to a change in income; em = % change in quantity / % change in income. A normal good is one for which an increase in income leads to an increase in demand; so income elasticity of demand is positive. An inferior good is one for which an increase in income leads to a decrease in demand; so the income elasticity of demand is negative. Luxury goods are goods that have an income elasticity of demand that is greater than 1: a 1% change in income leads to more than a 1% change in demand. As a general rule of thumb, however, income elasticities tend to cluster around 1. p1x''1 + p2x''2 = m'' & p1x'1 + p2x'2= m' Subtract the second equation from the first and let denote differences, as usual: p1 x1 + p2 x2 = m. Now multiply and divide price i by xi/xi and divide both sides by m: (p1x1/m) ( x1/x1) + (p2x2/m) ( x2/x2) = m/m Divide both sides by m/m, and use si = pixi/m to denote the expenditure share of good i. This gives us our final equation, s1 (x1/x1/ m/m) + s2 ( x2/x2/ m/m) = 1. This equation says that the weighted average of the income elasticities is 1, where the weights are the expenditure shares. Luxury goods that have an income elasticity greater than 1 must be counterbalanced by goods that have an income elasticity less than 1, so that on average income elasticities are about 1. 16.2. Suppose that the demand curve is vertical while the supply curve slopes upward. If a tax is imposed in this market who ends up paying it? When a tax is present in a market, there are two prices of interest: the price the demander pays and the price the supplier gets. These two pricesthe demand price and the supply pricediffer by the amount of the tax. How much of a tax gets passed along to consumers depends on the relative steepness of the demand and supply curves. As the supply curve is upward sloping and the demand curve is completely inelastic vertical line, all of the tax gets passed along to the consumers. 16.5. Suppose that the supply curve is vertical. What is the deadweight loss of a tax in this market? Zero. The deadweight loss measures the value of lost output. Since the same amount is supplied before and after the tax, there is no deadweight loss. Put another way: the suppliers are paying the entire amount of the tax, and everything they pay goes to the government. The amount that the suppliers would pay to avoid the tax is simply the tax revenue the government receives, so there is no excess burden of the tax.