Why is the consumer burden above the producer burden on a graph representing taxation but the opposite on a subsidy graph (consumer benefit below producer benefit)?
Why does the consumer have to bear more of the burden when demand is inelastic and the consumer when demand is elastic for taxation? (same question for benefits and subsidies)
This makes perfect sense, thanks Minseong!
Hi Nic, thank you for your question.
I. Tax Burden and Subsidy Benefit
For your information, the consumer burden of a tax increase means the amount of market price rise. The producer burden of a tax increase means the amount of revenue declines. Likewise, consumer benefit means the amount of market price decrease, and producer benefit means the amount of revenue increase.
As you can see in the diagram above, the market price (equilibrium point) increases from P1 to P2. Hence, the top part of the tax burden would be considered as consumer burden. In addition, at Q2 (equilibrium quantity after tax applied), the market price of the g/s would've originally been P3 according to the S1 curve, if there were no taxation. Hence, the area between P3 and P2 could be interpreted as the total tax burden. As consumer burden and producer burden add up to the total tax burden, producer burden would be the area between P1 and P3. Hence, the consumer burden is above the producer burden on a taxation graph.
On the other hand, when the government subsidies, the market price (equilibrium point) decreases from P1 to P2. Hence, the bottom part of the subsidy benefit (between P1 and P2) would be considered as a consumer benefit. In addition, at Q2 (subsidised equilibrium quantity), the market price would've originally been P3 according to the S1 curve, if there were no subsidies. Hence, the area between P3 and P2 is the total subsidy benefit. Likewise, consumer benefit and producer benefit add up to the total subsidy benefit. Hence, the area between P1 and P3 would be producer benefit, which means that the producer benefit is above the consumer benefit on a subsidy graph.
II. Relation with Elasticity
When demand is inelastic, quantity demanded will not change a lot even when there is a price change. Hence, even if producers increase the market price of the product, consumers will still consume the product, meaning that consumers will bear more of the burden. Since an increase in market price of an inelastic good won't decrease the revenue, when there is an increase in cost of production due to taxations, producers will simply increase its market price, and consumers will bear more of the burden.
In contrast, when demand is elastic, quantity demanded will change a lot when there is a price change. Because the demand will change a lot, in order to minimise the loss, producers will bear more of the tax burden. Since an increase in market price of an elastic good will decrease the revenue a lot, when there is an increase in cost of production due to taxations, producers don't have a lot of choice other than bearing most of the tax burden by themselves.
This analysis would be the same for subsidies and its benefits.
Does this answer your question?