The main difference between variable taxes and fixed taxes is that unlike variab
ID: 1224562 • Letter: T
Question
The main difference between variable taxes and fixed taxes is that unlike variable taxes, fixed taxes The following graph shows the consumption schedule for an economy with a given level of taxes. Suppose the government implements a reduction in a variable tax Use two green points (triangle symbol) to connect the two black points (plus symbols) representing the consumption schedule after the change in taxes. (Hint: The new consumption schedule must pass through one point on the left and one point on the right.) 50 T Consumption with reduction in a variable tax 40 Consumption with reduction in a fixed tax 20 O 10 20 40 60 80 100 REAL GDP (Billions of dollars) The blue line on the next graph represents the original total expenditure line for this economy before the change in tax structure. table. GDP level Total Expenditure 90Explanation / Answer
Answer 1
The main difference between the variable taxes and fixed taxed is that unlike variable taxes, fixed taxes do not vary with the units of output produced.
The Graphical depiction above shows the original consumption function in blue. After the imposition of the reduced variable tax the consumer has a higher disposable income at higher levels of income which in turn would increase the real consumer spending at higher levels of income. As the real GDP goes on increasing the real spending increases more than proportionately as shown by the increasing gap between the two consumption functions. This is so because the lowering taxes at higher levels yields a higher disposable income and in turn higher spending.
Answer 3
Real GDP (Billions of Dollars)
Total expenditure(Billions of Dollars)
10
5
90
85
Answer 4
A reduction in the fixed tax rate would yield a higher disposable income at all income levels and thus higher levels of real expenditure to the extent of the taxes reduced. This is graphically depicted by the new consumption function (Green line) parallel to the original function depicting an increase to the tune of the fixed tax reduced. In our example it is a reduction in the fixed tax by an amount of $5.
Answer 5
If we club this graph with a 45 degree line and see the points of intersection we observe that if the fixed tax is reduced the new equilibrium is higher than if the variable cost is reduced. Hence,
The change in the equilibrium output is greater when the government implements a fixed tax rate cut
True
False
Real GDP (Billions of Dollars)
Total expenditure(Billions of Dollars)
10
5
90
85
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