1.2.9 Indirect taxes and subsidies

• Define indirect tax

  -An indirect tax is a tax on a good or a service

  
  

  -Indirect taxes are taxes charged or levied on the consumption of goods + services levied on either the consumers or producers

  
  

  Example: landfill tax
• Define direct tax

  -A direct tax is a tax on an individual or an organisation

  
  

  -Direct taxes are taxes levied directly individual earnings or incomes, business profits and properties
• What is tax incidence?

  Tax incidence is a measure of who

  ultimately/finally pays the tax

  
  

  Or

  
  

  It refers to who the tax burden falls on

  It can fall on the consumers, producers or both
• How does indirect tax impact the consumer?

  The amount of tax passed on to the the consumer depends on the price elasticity of demand

  The more inelastic the demand, the more of the tax passed down.
• How does indirect tax impact the producers?

  They increase production costs for producers and therefore producers supply less
• How does indirect tax impact the government?

  If demand is not price sensitive, then an indirect tax can expect to raise substantial tax revenues for the government
• The incidence of indirect taxes on consumers

  The incidence (or burden) of indirect taxes is therefore shared between consumer and producer
• The incidence of indirect taxes on producers

  The incidence of the tax falls mainly on the producers. This is because demand is relatively elastic compared to supply.

  
  

  Producers can only raise the price by a small amount. Increasing it too much would cause a huge fall in Demand.
• Effect of Subsidies on consumers

  Price reduction: Subsidies lead to lower prices for consumers, making the product more affordable.

  
  

  Increased consumption: Lower prices encourage consumers to buy more of the subsidized product.

  
  

  Potential impact on government expenditure: Providing subsidies may increase government spending, which could affect other areas of expenditure or require higher taxes.
• Effect of Subsidies on producers

  Producers pay a lower price than the market price as they are encouraged by the government to supply more.

  
  

  Producers are able to produce more goods and services, which increases the overall supply of that good or service.

  
  

  Producer surplus increases more than consumer surplus if demand is elastic.
• Effect of Subsidies on government

  Encouraging the growth of subsidized industries relative to non-subsidized industries.

  
  

  Altering the allocation of resources in the economy.

  
  

  Impacting the cost of subsidies, which are funded by taxes.
• Effect of Subsidies on government(2)

  Influencing demand elasticity.

  
  

  Supporting industries with positive externalities.

  
  

  Potentially interfering with free markets and creating inefficiencies.
• What is the effect of subsidies?

  -They increase the employment rate, by making workers more skilled through apprenticeship schemes and lowering the cost of employing workers.

  
  

  -They reduce inequality in society, if the subsidy is progressive. Subsidies could help control inflation, by keeping costs of production low.

  
  

  -Subsidies could encourage the consumption of merit goods, which creates positive externalities