Syllabus T. Y. B. A. Paper : IV advanced economic theory with effect from academic year 2010-11 in idol

 
 
 
 
 
 
 
Figure 15.19 
Thus as elasticity of demand becomes less the excess 
burden from a unit tax becomes smaller. When the demand is 
perfectly inelastic, the consumers do not adjust their purchases to 
price and the unit tax does not affect consumer choice. In this case 
unit tax is equivalent to a lumpsum tax and there is no excess 
burden or deadweight loss. 
The excess burden of a unit tax is given by the triangle ABC. 
According to R. A. Musgrave and P.B. Musgrave, 
The triangle
Where u = Unit tax 
E = Price elasticity of demand 
Q = Quantity demanded 
P = Price 
2
1
Q
ABC
u E
2
P
1
D
S
1
S
S
A
B
Q
1
Q
u
Quantity
Pr ice
1
S
C
O
D

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If the demand is perfectly inelastic E is zero, and the excess 
burden is also equals zero. As the elasticity of demand rises the 
excess burden also rises further. According to them, the excess 
burden also rises as the squares of unit tax, u. 
 
Increasing Cost 
The excess burden arising from a unit tax under the 
assumption of an increasing cost is shown in figure 15.20 
 
 
 
 
 
 
Figure 15.20 
In figure 15.20, the SS
1
is the supply curve under the 
assumption of increasing cost. Pre-tax equilibrium is at E, output is 
OQ and the price is OP. The consumer‘s surplus is equal to PDE 
and the prod
ucer‘s surplus (that is, the difference between the 
actual payment received and the minimum payment to be received) 
is equal to SPE. If a unit tax u equal to AB = P
2
P
1
is imposed, the 
new price the consumer pays is OP
1
, the price received by the 
producer is OP2 and the quantity falls to OQ
1
. The revenue 
received by the government is equal to P
2
P
1
AB. It is borne by both 
buyers and sellers. The consumer surplus is reduced to P
1
DA and 
the producer surplus reduced to SP
2
B. The loss of consumer 
surplus is equal to PP
1
AE, out of which PP
1
AF is received by the 
government as revenue and the area FAE shows the net loss of 
consumer surplus. Similarly, the producer surplus is reduced to 
SP
2
B. The loss of producer surplus is equal to P
2
PEB. Out of which 
P
2
PEB is received by the government as revenue and area FBE is 
the net loss of producer surplus. Thus the fall in total surplus is 
equal to the triangle ABE (=FAE + FBE) and it is the deadweight 
loss or excess burden of the tax.