Question

Suppose the price of a good goes up when the government ends policy X. Because of this, a consumer experiences a $150 change in their consumer surplus from consuming this good, per year. However, because policy X has been ended, the government can cut taxes. Because of the tax cut, this individual's taxes go down, $100 a year. What does this change in policy do to this individual's welfare? i.e. are they better off, worse

Answer 1

The net impact of ending policy X and the resulting tax cut leaves the individual worse off by $50 per year due to a larger decrease in consumer surplus than the savings from reduced taxes.

Step-by-step explanation:

When the government ends policy X, resulting in a price increase of a good, a consumer's consumer surplus decreases by $150 per year. However, the end of policy X allows for a tax cut, reducing the individual's taxes by $100 a year. The net impact on this individual's welfare would be a loss of $50 ($150 loss in consumer surplus minus $100 savings from tax cut). This means that despite the tax cut, the individual is worse off by $50 per year due to the end of policy X.

Governing policies can significantly influence the cost of production and the supply curve. When taxes are introduced or increased, they are often viewed as an additional cost to businesses which can decrease supply, as these higher costs raise the price of production and can lead to a leftward shift in the supply curve. Conversely, cutting taxes can potentially lower production costs and increase supply, but if the lost government revenue results in reduced services or other adverse effects, it may not entirely compensate for the consumers' loss in surplus.