ECON 2 - Principles of Microeconomics

ECON 2 - Principles of Microeconomics Signature: Drake University, Fall 2019 William M. Boal

Printed name:

HOMEWORK EXERCISE #8 “Taxes”

Due Friday, October 18, 2019 Suppose the weekly demand and supply of gasoline are given by the following equations.

Demand: PD = 10.00  (Q/100) Supply: PS = 1.00 + (Q/200) where P denotes the price per gallon and Q denotes the quantity in millions of gallons.

(1) [Equilibrium: 20 pts]

a. Plot the demand curve in the graph above using a straightedge. Label it “D”. b. Plot the supply curve in the graph above using a straightedge. Label it “S”.

c. Find the equilibrium price.

$ per gallon

d. Find the equilibrium quantity.

million gallons

$0.00

$0.50

$1.00

$1.50

$2.00

$2.50

$3.00

$3.50

$4.00

$4.50

$5.00

$5.50

$6.00

$6.50

$7.00

$7.50

$8.00

$8.50

$9.00

$9.50

$10.00

0 100 200 300 400 500 600 700 800 900 1000 1100 1200

P ri ce  p e r  ga llo

n

Quantity (millions of gallons)

ECON 2 - Principles of Microeconomics Drake University, Fall 2019

Homework Assignment #8 Page 2 of 2

(2) [Tax: 40 pts] Suppose the government imposes a tax on gasoline in the amount of $1.50 per gallon.

a. Compute the quantity of gasoline actually sold with the tax. million gallons b. Compute the total price paid by gasoline buyers, including the tax. $ per gallon c. Compute the net price received by gasoline sellers, excluding the tax. $ per gallon d. Compute the total amount of tax revenue collected by the government. $ million e. Compute the loss of consumer surplus caused by the tax. $ million f. Compute the loss of producer surplus caused by the tax. $ million g. In the graph on page 1, shade the area that represents deadweight loss. h. Compute the deadweight loss caused by the tax. $ million

(3) [Laffer curve: 40 pts] Compute the total amount of tax revenue collected by the government under alternative tax rates.

a. [20 pts] Complete the second row of the table below. Tax rate per gallon $0.00 $1.50 $3.00 $4.50 $6.00 Tax revenue collected (millions)

$ 0 $ $ $ $

b. [16 pts] Graph your answers to part (a) below.

c. [4 pts] Does tax revenue always increase when the tax rate is raised? Why or why not? (Answers that are

identical or nearly identical to another student’s will receive zero points.)

[end of exercise]

$0 $100 $200 $300 $400 $500 $600 $700 $800 $900

$1,000 $1,100 $1,200 $1,300 $1,400 $1,500

$0.00 $1.50 $3.00 $4.50 $6.00

Ta x  re ve n u e  c o lle

ct e d  ( m ill io n s)

Tax rate per gallon