12/5/2011 Class 39

When you make something illegal, you don't eliminate the want; instead, you raise the opportunity cost of the supply and make the curve steeper.

Additional cost unseen on the graph:
a.Law enforcement
(1) the government have to raise tax to hire bureaucrats, police, courts, prisons to enforce the law
(2) these bureaucrats could have done other things more productive

b. When you make a certain profession illegal, the job participants don't have to pay payroll tax, insurance money. They can get more pure profit, even exceeding the increasing cost.

The fact of making drug illegal:
(1) the price of drugs fall in the long run (technology reason)
(2) the big profit entices more people to join and compete
(3) the crime rate increases in other fields
If we punish severely on some small sins, like smoking in the bathroom, we actually lower the marginal cost for people to commit the severe crimes.

Some people say that one of the benefits when prostitution is legalized is that government can get tax revenue. But this opinion is odd.
(1) Tax is neutral; it is just a transfer of money, so no one gets benefit or hurt
(2) Why is government tax revenue benefit? The signal of wealth is not how much money the government has but how many goods and services people produce

The economic incidence of supply and demand curve
Application: Taxation

1. Excise tax: legal liability for tax is upon suppliers
the result of a tax
(1) customers and suppliers share the burden of tax and the more inelastic, the more loss the group has to suffer
(2) if the tax is $1, price doesn't go up by $1. Reason: both demand curve and supply curve usually have a slope.
(3) the government can not get as much tax revenue as it intended to get because of the second reason.
(4) The market is affected. Deadweight loss occurs.
(5) We have to hire bureaucrats to enforce the law, but they don't produce anything new.
(6) People can cheat on tax
<a> they have to waste resources to avoid the tax
<b> others have to pay for your tax

The economic incidence of supply and demand curve

A way for a free market to get efficiency and equity at the same time
Head Start Theorem (Kenneth Arrow)
An appropriate program of lump-sum taxes or subsidies that puts everyone on equal footing.