Government can influence the market mechanism by

implementing the differnet polices i.e Tax, Subsidy and Price

Control
Tax is define as a financial burden or charges levied by the
government to the individual and institution.
Broadly tax is divided into two types.
a)Direct b) Indirect
Direct taxes are one type of taxes an individual pays that are paid
straight or directly to the government, such as income tax, poll tax,
land tax, and personal property tax.
Indirect taxes are basically taxes that can be passed on to another
entity or individual. They are usually imposed on a manufacturer or
supplier who then passes on the tax to the consumer. The most
common example of an indirect tax is the excise tax on cigarettes
and alcohol. Value Added Taxes (VAT) are also an example of an
indirect tax.
Taxation on goods, income or wealth influence economic
behaviour and the distribution of resources.
For example, higher taxes on carbon emissions will increase cost
for producers, reduce demand and shift demand towards
alternatives.
Higher income tax can enable a redistribution of income within
society, but may have an impact on reducing the incentives to
work and supply labour.
 At this condition buyers are paying higher and
sellers are receiving less than pre- tax
situation.
 Imposition of tax on buyers.
When government imposes tax on buyers of
particular product the demand curve shifted
to the leftward and market equilibrium
quantity reduces.
 Imposition of tax on sellers.
When government imposes tax on seller of particular product the supply
curve shifted to the leftward and market equilibrium quantity reduces.
 Continue

 From the above two different effects of tax

we can conclude that whether the same
amount of tax is levied to the buyers and
sellers the burden of tax impacts both
demander and supply side equally.
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 Graphical Presentation

Deadweight
Tax Amount/Tax Revenue
loss
P Earn by Government

6
Rs
2
5

300 500 Q
 Deadweight loss refers to the loss of
economic efficiency when the optimal level
of supply and demand are not achieved.
 It is the value of the trade not made by
because of tax.
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k|efjsfl/tfdf x'g hfg] 3f6f g} Deadweight loss xf] .
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 Mathematical Illustration

Fundamental Notes
 It government imposed tax on buyers we add tax
amount to the price on demand function.
 If government imposes tax on sellers we reduces
tax amount to the price on supply function.

Numerical Example.
If D = 1000-4P and S = -200+ 2P
Find equilibrium price and quantity. What happens
to new price and quantity when government
impose Rs 2 as a tax to buyers and Rs 3 to sellers
per unit ?
 Solution.
For Equilibrium
D=S
1000-4P = -200+ 2P
P = Rs. 200
Substituting the value of P in demand equation, we get,
Q = 200 units.

Now Government impose the Rs 2 tax on buyers

D = 1000-4P
1000 – 4( P +2)
1000 – 4P – 8
D = 992 – 4P
And we have
S = -200 + 2P
Equating both side to calculate equilibrium price and quantity after tax
D=S
992 – 4P = -200 + 2P
P = Rs 198.66
Now substituting the P = 198.66 in demand equation ( 992-4P) we get,
Q = 197.36 units.
 Now government imposes taxes to the
sellers by Rs 3.
S = -200 +2 ( P-3)
S = -206 + 2P
Equating both side to calculate equilibrium price
and quantity after tax
D=S
1000-4P = -206+2P
P = Rs 201
Now substituting the P = 201 in supply equation (-
206 + 2P ) we get,
Q = 196 units