2015 by McGraw-Hill Ryerson Ltd. 1 Chapter 7

 2015 by McGraw-Hill Ryerson Ltd. 1 Chapter 7

2015 by McGraw-Hill Ryerson Ltd. 1 Chapter 7 Economic Welfare and Income Distribution 2015 by McGraw-Hill Ryerson Ltd. 2 Learning Objectives After this chapter you will be able to: describe the concepts of consumer surplus, producer surplus and deadweight loss, and explain how these concepts can further our understanding of the operation of markets distinguish spillover costs and benefits and the ways that

government addresses these issues determine the impact of an excise tax on consumers and producers explain the effects of government price control programs on consumers and producers evaluate the effectiveness of government intervention to change the distribution of income 2015 by McGraw-Hill Ryerson Ltd. 3 7.1 Economic WelfareConsumer and Producer Surplus Marginal and Total Benefit Both consumers and producers gain from market activity. For consumers, these gains can be measured by marginal and total benefit. Marginal benefit is the extra satisfaction, expressed in dollar terms, from consuming a certain unit of a product. Total benefit is the total satisfaction, expressed in dollar terms, from consuming a product.

2015 by McGraw-Hill Ryerson Ltd. 4 Consumer Surplus (a) http://grokkingecon.com http://reffonomics.com/ConsumerandProducerSurplus.html http://www.youtube.com/watch?v=4GVD94OUMwA (pirate) Consumer surplus the difference between what consumers are willing to pay and what they actually pay. It is defined as the net benefit, expressed in dollar terms, from buying a product at its market price. It is found, either for an individual or in an entire market, by subtracting total expenditure from total benefit. Excess benefit: the total difference between marginal benefits and marginal cost for all units that are produced and consumed in the market Consumer Surplus Consumer surplus shows the extent to which consumers pay a lower price than the highest one they are willing to pay. It is defined as the net benefit, expressed in dollar terms, from buying a product at its market price. It is found, either for an individual or in an entire market, by subtracting total

expenditure from total benefit. 2015 by McGraw-Hill Ryerson Ltd. 6 Consumer Surplus for an Individual FIGURE 7.1 Consumers Demand Curve for Pizzas Consumers Demand Schedule for Pizzas ($ per pizza) $14 Quantity Demanded (D) (pizzas) 1

16 Total Benefit ($) 14 26 (14 + 12) 36 (14 + 12 + 10) 12 2 10 3 The consumer pays $10 for each of the 3 pizzas but gets more marginal benefit from the first 2 pizzas. At 2 pizzas the $12 marginal benefit can be split into the $10 market price and the $2 surplus for that pizza. The consumers total benefit from eating pizzas is area AB, and the total expenditure is area B. The consumer surplus is area A. Price ($ per pizza) Price A+B = Total Benefit B = Total expenditure 14

12 10 A = $6 D 8 4 0 2015 by McGraw-Hill Ryerson Ltd. B = $30 1 2 3 4 Quantity (pizzas per week) 7

Consumer Surplus of a Market FIGURE 7.2 Market Demand Curve for Pizzas Market Demand Schedule for Pizzas ($ per pizza) 18 Quantity Demanded (D) (thousands of pizzas) 0 Price ($ per pizza) Price 18 14

50 10 in the pizza market 100 are charged a price of $10 When consumers they consume 100 000 pizzas Adding up consumers marginal benefits for all these pizzas gives a total benefit in the market equal to area AB The consumers total expenditure on pizzas is area B Total consumer surplus in the market is found by subtracting area B from area AB so its equal to area A 16 14 12 10 8 6 4 2 0 A+B = Total Benefit B = Total Expenditures A = $400,000 D B = $1 million 50

4 Quantity (thousands of pizzas per week) 2015 by McGraw-Hill Ryerson Ltd. 8 Producer Surplus (a) http://www.reffonomics.com/TRB/chapter4/producersurplus1.swf Producer surplus the difference between what producers sell for and what they are willing to sell for It is defined as the difference between the price received from selling each unit of a product and the marginal cost of producing it. http://www.reffonomics.com/TRB/chapter5/pricefloorceiling/ pricefloorceiling2.html (interactive) Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Producer Surplus Producer surplus shows the extent to which producers receive a price different from the lowest one they are willing to accept.

It is defined as the difference between the price received from selling each unit of a product and the marginal cost of producing it. 2015 by McGraw-Hill Ryerson Ltd. 10 Producer Surplus for a Market FIGURE 7.3 18 Price ($ per pizza) 16 14 S 12 10 C = $400 000 8 6 4

D 2 0 50 100 Quantity (thousands of pizzas per week) 2015 by McGraw-Hill Ryerson Ltd. 11 The Case of Perfect Competition In a perfectly competitive market, the requirement of marginal-cost pricing is met. Based on this requirement, equilibrium will occur where marginal benefit equals marginal cost, and both consumer surplus and producer surplus are maximized.

2015 by McGraw-Hill Ryerson Ltd. 12 The Case of Perfect Competition FIGURE 7.4 S 18 Price ($ per pizza) 16 14 12 Consumer Surplus 10 Producer Surplus 8 6 4 Marginal Cost

2 0 50 Marginal Benefit Marginal Cost 100 Marginal Benefit D 150 Quantity (thousands of pizzas per week) If the pizza market is perfectly competitive, then at the equilibrium price of $10 and output of 100 000 pizzas the requirement of marginal-cost pricing is met while the consumer surplus and producer surplus are both maximized At quantities below 100 000 pizzas, marginal benefit exceeds marginal cost At quantities above 100 000 pizzas marginal cost exceeds marginal benefit so that a reduction in quantity will bring about greater economic welfare

13 When a Market Becomes Uncompetitive A market may become uncompetitive - for example due to government policy. Then price rises. As a result a portion of the consumer surplus becomes producer surplus. Also there is a net reduction in both the consumer surplus and producer surplus due to the reduction in market output. This net reduction is known as the deadweight loss. 2015 by McGraw-Hill Ryerson Ltd. 14 When a Market Becomes Uncompetitive FIGURE 7.5 http://www.youtube.com/watch?v=ak8mW732b5E&safe=active (deadweight loss) 18 S Price ($ per pizza)

16 14 12 E 10 F Deadweight Loss G 8 6 4 2 D 0 50 75 100

150 Quantity (thousands of pizzas per week) If some pizza-makers are allowed to collude, they might restrict output to 75 000 pizzas raising market price to $12 Area E represents the transfer of consumer surplus into producer surplus which is gained by the colluding pizza-makers Area FG represents the deadweight losscombining a fall in both consumer surplus and producer surplusas a result of the lower output 15 7.2 Spillover Effects and Market Failure Spillover effects: external effects of economic activity, which have an impact on outsiders who are not producing or consuming a product. Governments often step in to see that all costs and benefitsprivate and publicare accounted for, through the use of regulations, taxes, or subsidies 2015 by McGraw-Hill Ryerson Ltd.

16 Spillover Costs (a) Spillover costs: the negative external effects of producing or consuming a product Producers making products that have negative external effects focus only on their private costs as they make supply decisions so prices of these products are insufficient to cover both private and spillover costs 17 Spillover Costs Adding these costs to private costs vertically raises the supply curve The preferred outcome is at a lower quantity than in a perfectly competitive market Government intervention (e.g. an excise tax) can produce the preferred outcome of reflecting both private and public costs http://reffonomics.com/Externalities.html 2015 by McGraw-Hill Ryerson Ltd.

18 Spillover Costs FIGURE 7.6 Market Demand Curve for Gas Demand and Supply Schedules for Gasoline $2.50 2.00 1.50 1.00 0.05 Quantity Quantity Demanded Supplied (D) (S0) (S1) (millions of litres) 0 2 4 6 8

8 6 4 2 0 4 2 0 0 0 Price ($ per litre) Price ($ per litre) S1 2.50 2.00 a A

S0 Spillover Costs, Excise Tax B 1.50 b 1.00 0.50 D 0 1 2 3 4 5 6

7 8 Millions of Litres Without government intervention, equilibrium occurs at point b To account for spillover costs, the government may impose an excise tax of $1/litre The supply curve shifts from S0 to S1 moving equilibrium to point a 19 What will happen when a price fails to reflect all the costs of a product? Too much of the product will be produced http://www.cbc.ca/news/health/obesity-team-suggests-taxing-junk-f oods-more-than-healthy-eats-1.2962389 http://www.cbc.ca/news/health/obesity-no-silver-bullet-but-many-promising-we apons-1.2963967?cmp=rss&cid=news-digests-canada-and-world-morning (tax on junk food) Winnipeg Free Press Monday, October 30, 2017 B2 Bill to restrict junk ads worth the heat Parks and Rec Soda Tax https://www.dailymotion.com/video/x4w4p8v 4:00-5:15

Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Externality NOT IN MY BACKYARD Externalities, or the effect of economic activity on a third party, can lead to undesirable consequences like pollution. Oil spills, like the one caused by British Petroleum in the Gulf of Mexico in 2010, are a prime example. Even though BP and its customers each benefit from the production of oil, others along the Gulf coast had their lives severely disrupted. Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Externality Exists when some of the costs and benefits associated with production and consumption fall on someone other than the producers or consumers of the product Doug's neighbor has a dog whose barking annoys Doug and Carrie. Doug and his neighbor work out a private solution to the externality problem amongst themselves, which perfectly illustrates the Coase Theorem. In many communities the private solution is not possible and this leads many municipalities to pass noise ordinances to eliminate the negative externalities. https://www.youtube.com/watch?v=D-dR_ru1ejY 3:47-6; 7-10:20; 11:48-15:52; 16:11-19:42

https://www.youtube.com/watch?v=BstFHCwt9E4 Signs Externality Ed Masry (Albert Finney) and Erin Brockovich (Julia Roberts) meet with a representative of Pacific Gas & Electric to discuss a settlement offer from the firm. The company offer compensates the claimants for the value of the land they own, but no compensation is offered for medical damages as a result of toxic poisoning. Erin Brockovich believes that many of the health problems in the affected community can be traced to the introduction of the poison into the groundwater. However, PG&E counters that the condition of the residents is a result of lifestyle choices, heredity, and bad luck. This clip is a powerful example of negative externalities and how firms have an incentive to hide the adverse consequences from the public . https://www.youtube.com/watch?v=5Jdk3riKKwo&feature=y outu.be Erin Brockovich Spillover Benefits (a) Spillover benefits: the positive external effects of producing or consuming a product. Adding these benefits to private benefits raises the demand curve. The preferred outcome is at a higher quantity than occurs in a perfectly competitive market.

Government intervention (e.g. a consumer subsidy) can produce the preferred outcome. http://reffonomics.com/Externalities.html Winnipeg Free Press (Wednesday, March 14, 2018 B3)mandatory vaccinations 24 Spillover Benefits FIGURE 7.7 Demand and Supply Curves for an Engineering Education Demand and Supply Schedules for an Engineering Education $6000 5000 4000 3500 3000 2000 Enrollment Quantity

Demanded Supplied (D0) (D1) (S) (thousands of students) 0 0 4 6 8 12 0 4 8 10 12 16 16 12 8 6 4 0 5000

Tuition ($ per year) Tuition ($ per year) S 6000 4000 b A B a 3000 2000 Spillover Benefits, Student Subsidy D0

D1 1000 0 2 4 6 8 10 12 14 16 Without government intervention in the market for engineering education, equilibrium occurs Thousands of Students at point a If spillover benefits are determined to be $2000 per student, government can create a subsidy for students pursuing a career in engineering The demand curve shifts from Do to D1 and the new equilibrium is at point b with $2000 of each students tuition paid 25 What will happen when a price fails to reflect all the benefits of a product?

Too little of the product will be produced Investing in Child Care article Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Why dont we depend on the private sector for all the goods and services we desire? Public good a product whose benefits cannot be restricted to certain individuals (e.g. national defence) http://reffonomics.com/PublicGoods.html Some goods and services are have two characteristics: Shared consumption and nonexclusion Goods and services with these characteristics are demanded by people but the private sector lacks sufficient incentives to produce the right amount https://www.youtube.com/watch?v=E1v5eRs0_fw Excludable, non-excludable, etc. http://reffonomics.com/workbook/PublicGoods/LightHouse2A.swf Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. What is an example of a pure or nearly pure public good or service?

Dams National defense The court system Lighthouses Weather forecasts Street lights Police and fire protection Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. What is an example of a pure or nearly pure private good or service? Cars Clothing Computers Electronic devices Etc., etc., etc. http://reffonomics.com/workbook/PublicGoods/LightHouse2A.swf Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. What is an example of a good or service paid for by tax dollars that may not be a pure public good? The following examples share the feature of shared consumption but non-payers can be excluded Roads

Imposing tolls is one way of excluding non-payers from roads Public education Imposing certain kinds of school policies such as attendance rules or strict discipline policies allows public schools to exclude students what are unwilling to pay by conforming to school rules https://www.youtube.com/watch?v=x78PnPd-V-A Winnipeg Free Press Monday, April 3, 2016 A7 http://www.studyandgoabroad.com/hot-news/these-countries-offer-free-educati on-to-foreigners-so-maybe-its-time-to-study-abroad/ Why might government officials be justified in using tax dollars to subsidize (lower the price) of vaccines against contagious diseases? Private markets will not produce enough of these vaccines This is a type of market failure The market price for these vaccines fails to reflect all the benefitsspecifically the benefits from those who are less likely to be infected by those who have paid for the vaccination but choose not to get the vaccinations themselves Winnipeg Free Press March 17, 2018 A4 Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved.

Why might government officials be justified in placing a tax on businesses that allow dangerous chemicals to get into a river or lake? Pollution is also a type of market failure Imposing a tax on pollution is one way to help correct for excessive output of dangerous chemicals Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Tragedy of the Commons https://ed.ted.com/lessons/what-is-the-tragedy-of-the-commons-nic holas-amendolare http://larryferlazzo.edublogs.org/2017/11/22/new-ted-ed-video-less on-what-is-the-tragedy-of-the-commons/ 2015 by McGraw-Hill Ryerson Ltd. 33 Groups for Lesson 12Activity 1 and 3 1 2 3 4

5 6 Irteza Akinola Ahmed Abeer Hassan Guillaume Tina Fizza David Ayomide Kevin Francisco

Arslan Sahil Teresa Paul Fabio Matthew Nikita Olu Arshpreet Jack Ruihao David S 2015 by McGraw-Hill Ryerson Ltd. 34

Discussion Questions Activity 1 Life on Dismal Lake A. There is no externality problem because there is no third party being hurt by the pollution A. B. The Smiths bear all of the costs whether they decide to carry the garbage out to the road for pickup or to pollute the lake and live with the dirty, smelly lake They eventually choose not to pollute the lake which is usually (not always) the case when people think about trashing their own property and home Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Dismal Lake B. There is an external cost here because the Smiths bear some of the costs of Whiplashs garbage disposal. B. C.

The Smiths could get the police to fine Whiplash if the pollution continues but the cost incurred in doing this needs to be considered The Smiths can clean the lake up themselves B. C. or offer to take Whiplashs garbage out to the road for pickup themselves or even pay Whiplash to stop polluting Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Dismal Lake D. E. Not polluting would make property values higher, which would let Whiplash charge a higher price for lots No D. E. F. F. It is now more difficult to identify who is polluting, to determine how much they are polluting

and to monitor whether they have stopped or continue to pollute With so many families involved it is more difficult to work out financial agreements between all of the families so it is more likely government rules and enforcement will be necessary Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Activity 3 #2 Proposal 1 if no additional business will be brought into the city either by the baseball team or the new stadium, and if all of the spending is simply reallocated away from existing firms in the city, there is little rationale for the public investment in the program Especially if there are substantial external costs such as traffic jams and falling property values Proposal 2 the idea that those who use public services and facilities should pay for them certainly supports the user fee However, it is unlikely that the city will be able to recover all of the cost of the stadium with such feesor similar taxes on hotel rooms, etc.in less than a decade or so If that were true, private businesses would be likely to build the stadium in the first place Proposal 3 --If there are extensive opportunities for new businesses to be created and to attract higher spending in the city, then the stadium may well be a good infrastructure investment

2015 by McGraw-Hill Ryerson Ltd. 38 Excise Taxes and Demand Elasticity FIGURE 7.9 Page 184 Elastic Demand Consumers pay .25 of a $1 excise tax 3.00 $1 c A D B 2.25 a 3.75

d Price ($ per kg) 3.25 S0 4.00 S0 a S1 b b 4.00 Price ($ per kg) Inelastic Demand S1 $1 A

c 3.00 B 2.75 d D Producers pay .75 of a $1 excise tax 6 8 9 Quantity (millions of kg per year) 9 Quantity (millions of kg per year) 2015 by McGraw-Hill Ryerson Ltd.

39 Explanation of Figure 7.9 Elastic Demand A $1 excise tax causes supply as seen by consumer to shift to S1 Initially consumers see a price of $4 (point b) At the new equilibrium consumers pay a price of $3.25 (point a) while producers receive a price of $2.25 Because D is elastic, producers pay more of the tax (area B) than do consumers (area A) Inelastic Demand Consumers pay more of the tax (area A) than producers do (area B) 2015 by McGraw-Hill Ryerson Ltd. 40 Excise Taxes and Supply Elasticity FIGURE 7.10 Page 185 Elastic Supply Inelastic Supply S1 S0 3.75 3.00

2.75 b a 4.00 $1 A B S0 c d D 6 Price ($ per kg) Price ($ per kg) 4.00 b

S1 $1 a 3.25 3.00 A c B 2.25 d D 8 9 9 Quantity (millions of kg per year) Quantity (millions of kg per year) 2015 by McGraw-Hill Ryerson Ltd.

41 Explanation of Figure 7.10 Elastic Supply Consumers initially pay a price of $4 (point b) after an excise tax shifts supply as seen by consumers to S1 At the new equilibrium the price for consumers is $3.75 and for producers $2.75 Because S is elastic, consumers pay more of the tax (area A) than do producers (area B) Inelastic Supply Producers pay more of the tax (area B) than consumers do (area A) 2015 by McGraw-Hill Ryerson Ltd. 42 Excise Taxes An excise tax is an indirect tax charged on a particular product Excise taxes are considered an indirect form of taxation because the government does not directly apply the tax An intermediary, either the producer or merchant, is charged and then must pay the tax to the government These taxes can be categorized in two ways: - Ad Valorem: A fixed percentage is charged on a particular good. - Specific: A fixed dollar amount dependent upon the quantity purchased is charged.

http://www.investopedia.com/video/play/excise-tax/ http://www.youtube.com/watch?v=4cWoDJcgbHE&safe=active draw on board The Impact of an Excise Tax Figure 3.9, page 66 The Impact of an Excise Tax Market Demand and Supply Curves For Strawberries 4.00 Price 3.00 3.00 2.50 2.00 1.50 1.00 5 7 9 11 13

13 11 9 7 5 3.50 Price ($ per kg) Quantity Quantity Demanded Supplied ($ per (D) (S0) tonne) (millions of tonnes) S1 a 2.50 $1

A (S1) 2.00 9 7 5 3 1 S0 b c d B 1.50 1.00 D 0.50 0 1

3 5 7 9 11 13 Quantity (millions of kg per year) 15 The Effect of Elasticity For a given supply curve, the more elastic the demand curve the greater the proportion of an excise tax paid by producers. For a given demand curve, the more elastic the supply curve the greater the proportion of an excise tax paid by consumers. Excise Taxes and Demand Elasticity Figure 3.10, page 67 Elastic Demand Consumers pay .25 of a

$1 excise tax Inelastic Demand S1 b b S0 a 2.25 2.00 D B 1.25 $1 c A a 2.75

d Price ($ per kg) Price ($ per kg) S1 S0 $1 A c 2.00 1.75 B d D Producers 6 9 pay .75 of a $1 excise tax Quantity (millions of kg per year)

8 9 Quantity (millions of kg per year) Elastic Demand: A $1 excise tax causes supply to shift to S1. Initially consumers see a price of $3 (b) At the new equilibrium consumers pay a price of $2.25 (a) while producers receive a price of $1.25 Because D is elastic producers pay more of the tax (area B) than consumers (area A) Inelastic Demand: When D is inelastic consumers pay more of the tax than producers do Excise Taxes and Supply Elasticity Figure 3.11, page 68 Consumers pay .25 of a $1 excise tax Elastic Supply

Price ($ per kg) 2.75 2.00 1.75 Producers pay .25 of a $1 excise tax $1 A B S0 c d D 6 9 S1 S0

b S1 b a Inelastic Supply Price ($ per kg) Consumers pay .75 of a $1 excise tax $1 a 2.25 2.00 A c B 1.25

Producers pay .75 of a Quantity (millions of kg per year) $1 excise tax d 8 D 9 Quantity (millions of kg per year) Excise Taxes (b) The after-tax price for consumers is found where S1 crosses the demand curve. The aftertax equilibrium price for producers is the corresponding price on S0. The total tax paid by consumers is found by multiplying their tax-induced price rise by aftertax quantity. Similarly, the total tax paid by consumers is found by multiplying their corresponding price drop by after-tax quantity. 2015 by McGraw-Hill Ryerson Ltd.

48 The Impact of an Excise Tax FIGURE 7.8 The Impact of an Excise Tax Price ($ per kg) 5.00 S1 b 4.00 a 3.50 A 3.00 C B

2.50 $1 c S0 D d 2.00 1.00 0 1 3 5 7 9 11

Quantity (millions of kg per year) 2015 by McGraw-Hill Ryerson Ltd. 49 The Effect of Elasticity For a given supply curve, the more elastic the demand curve the greater the proportion of an excise tax paid by producers. For a given demand curve, the more elastic the supply curve the greater the proportion of an excise tax paid by consumers. 2015 by McGraw-Hill Ryerson Ltd. 50 Excise Taxes and Demand Elasticity FIGURE 7.9 Elastic Demand Consumers pay .25 of a

$1 excise tax Inelastic Demand S1 b b S0 3.25 3.00 $1 a c A D B 2.25 a

3.75 d Price ($ per kg) Price ($ per kg) S1 S0 $1 A c 3.00 B 2.75 d D Producers pay .75 of a $1 excise tax 6

8 9 Quantity (millions of kg per year) 9 Quantity (millions of kg per year) 2015 by McGraw-Hill Ryerson Ltd. 51 Excise Taxes and Supply Elasticity FIGURE 7.10 Elastic Supply Inelastic Supply S1 S0 Price ($ per kg) 3.75 3.00

2.75 $1 A B S0 c d D 6 Price ($ per kg) b a b S1 $1 a

3.25 3.00 A c B 2.25 d D 8 9 9 Quantity (millions of kg per year) Quantity (millions of kg per year) 2015 by McGraw-Hill Ryerson Ltd. 52 7.4 Price Controls http://www.youtube.com/watch?v=Ffcd6Wdkn5w&safe=acti

ve http://www.youtube.com/watch?v=XgBPAucs-W4 A price floor is a minimum price set above the equilibrium price. It results in a surplus in the market. A price ceiling is a maximum price set below the equilibrium price. It results in a shortage in the market. Price Ceilings and FloorsandExciseTax.docx http://reffonomics.com/workbook/ Price Price Controls Floors and Ceilings A price floor is a minimum price set above the equilibrium price. It results in a surplus in the market.

A price ceiling is a maximum price set below the equilibrium price. It results in a shortage in the market. 2015 by McGraw-Hill Ryerson Ltd. 54 Agricultural Price Supports Price Supports in Agriculture Price supports for agricultural goods are an example of a price floor. They help overcome unstable agricultural prices. Farmers win from these supports. Consumers and taxpayers lose from these supports. 2015 by McGraw-Hill Ryerson Ltd.

55 Effects of Price Supports FIGURE 7.11 Price ($ per litre) Quantity Quantity Demanded Supplied (D) (S) (millions of litres) $2.50 0 60 2.00 15 45 1.50

30 1.00 45 0.50 60 30 15 0 Market Demand and Supply Curves for Milk Price ($ per litre) Market Demand and Supply Schedules for Milk S surplus 2.50

b b 2.00 A B 1.50 a 1.00 A price floor creates a surplus. .50 0 15 30 45

D 60 75 Quantity (millions of litres per year) 2015 by McGraw-Hill Ryerson Ltd. 56 Rent Rent Controls Controls Rent controls are an example of a price ceiling. They keep down prices of controlled rental accommodation. Some (especially middle-class) tenants win from these controls. Other (especially poorer) tenants lose from these controls. 2015 by McGraw-Hill Ryerson Ltd.

57 Effects of Rent Controls FIGURE 7.12 Market Demand and Supply Curves for Units Market Demand and Supply Schedules for Units Quantity Demanded (D) Quantity Supplied (S) $1250 0 20 1000 5 15

750 10 10 500 15 5 250 20 0 (thousands of units) Price ($ per unit) Price ($ rent per month)

S 1250 1000 750 500 B A 0 2015 by McGraw-Hill Ryerson Ltd. b b 250 A price ceiling creates a shortage. a shortage

5 15 10 Quantity (thousands of units) D 20 58 7.5 The Distribution of Income Canadian Distribution of Income Canadas distribution of income can be shown using the Lorenz curve. This curve is a graph showing the cumulative distribution of income for households categorized into five groups based on their income levels. https://www.investopedia.com/articles/personal-finance/050

615/are-you-top-one-percent-world.asp?utm_source=person alized&utm_campaign=www.investopedia.com&utm_term=1 1278842&utm_medium=email https://www.forbes.com/billionaires/#d65de57251c7 https://curio.ca/en/video/the-rise-of-the-occupy-movement 2015 by McGraw-Hill Ryerson Ltd. 59 Income Distribution in Various Years FIGURE 7.13 Percentage of Total Pre-Tax Income Received by Each Fifth of Households Lowest 20% Second 20% Third 20% Fourth 20% Highest 20% 1961 1971 1981 1991

2001 2011 Average Income (2011) 4 12 18 25 44 4 11 18 25 43 5 11 18 25 42 5

10 17 25 44 5 10 16 24 47 4 10 15 24 47 $15 500 35 900 57 500 89 100 176 900 Average of total http://www.statcan.gc.ca/daily-quotidien/130911/dq130911a-eng.htm http ://www.statcan.gc.ca/tables-tableaux/sum-som/l01/cst01/famil106a-eng. htm

http://www.statcan.gc.ca/tables-tableaux/sum-som/l01/cst01/famil105aeng.htm?sdi=income http://www.statcan.gc.ca/tables-tableaux/sum-som/l01/cst01/famil21a-e ng.htm?sdi=average%20income 2015 by McGraw-Hill Ryerson Ltd. 75 000 60 The Lorenz Curve FIGURE 7.14 e Distribution of Household Income Share of Income in 2008 (%) Lowest Second Third Fourth Highest 4 10 15 24

47 Cumulative Distribution of Household Income Cumulative Share of Income in 2008 (%) Lowest 20% 4 Lowest 40% 14 = Lowest 60% 29 = Lowest 80% 53 = 100% 100 = (a) 4 + 10(b) 14 + 15(c) 29 + 24(d) 54 + 47(e) Cumulative Share of Income (%) 100 80

Perfect Equalit y 60 40 20 0 d c b a 20 40 Perfect Inequalit y 60 80 Households (%) http://www.youtube.com/watch?v=cG_TKAJyV6k (occupy wall street)

http://visualeconomics.creditloan.com/income-distribution-by-country/ http://www.youtube.com/watch?v=AQWN_DqcHG4 (explanation) http://www.gfmag.com/tools/global-database/economic-data/11944-wealth-distribution-income-inequ ality.html#axzz2kOCxLiCF https://www.cia.gov/library/publications/the-world-factbook/rankorder/2172rank.html http://www.indexmundi.com/facts/visualizations/income-distribution/#country=au:br:ca 61 http://www.econedlink.org/lessons/index.php?lid=885&type=educator 100 Interpreting the Lorenz Curve In using the Lorenz curve as a distribution measure, it is useful to compare it with curves for two hypothetical economies: In an economy of perfect equality, where all have identical incomes, the Lorenz curve is a 45degree line emanating from the origin. In an economy of perfect inequality, where one household receives all of the economys income, the Lorenz curve follows the horizontal and vertical axes of the graph. 2015 by McGraw-Hill Ryerson Ltd. 62

The Gini Coefficient The Gini coefficient provides a single numerical measure of income distribution. It is defined as the area between a Lorenz curve and the 45-degree line of perfect equality, divided by the entire triangular area under the 45-degree line. The coefficient varies from 0 to 1, with 0 representing perfect equality and 1 representing perfect inequality. www.Grokkingecon.com Micro--Market Failures 2015 by McGraw-Hill Ryerson Ltd. 63 Wage Wage Determinants Determinants (a) There are seven main wage determinants: labour productivity education

experience job conditions regional disparities market power Discrimination https://www.slice.ca/money/photos/highestpaying-in-demand-jobs-canada-2018/#!Sales -Rep-Highest-Paying-In-Demand-Jobs 2015 by McGraw-Hill Ryerson Ltd. 64 Distribution of Earnings 2015 by McGraw-Hill Ryerson Ltd. 65 Labour Productivity In any given market, labour productivity determines the wage of

that worker. Labour productivity is defined as output per worker in a given time. It is the most important determinant of wages. 2015 by McGraw-Hill Ryerson Ltd. 66 Education Education Education: usually adds to a workers pay but has opportunity costs as well serves two main purposes (consumption and investment in human capital) A student will undertake an educational program if its benefits (both monetary and nonmonetary) exceed its opportunity costs. https://www.youtube.com/watch?v=nFY0HBkUm 8o&feature=youtu.be (Bill Cosby and teen son)

2015 by McGraw-Hill Ryerson Ltd. 67 Education and Average Family Income 2015 by McGraw-Hill Ryerson Ltd. 68 Experience On-the-job experience increases a workers productivity, pushing up the wage rate In many industries, workers gain certain privileges the longer they work for a single employer Seniority rights: the workplace privileges provided to workers who have the longest experience with their employer Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Experience Older workers are often paid higher wages and can apply first for promotions and overtime work, allowing them to earn higher incomes than their younger colleagues The positive effect of workplace experience on earnings is one of the main reasons average incomes rise with age during the first part of a

persons working life Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Age and Average Income (2000) Figure 7.12, page 187 X curve financial concept Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Job Conditions Working conditions can make one job less appealing than the other In order to attract workers to less-appealing occupations, employers must offer higher wages Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Regional Disparities In Canada, workers in the same occupation earn different incomes, depending on the region they live in In a perfectly functioning labour market, workers in a single occupation would move from one part of the country to another until wage disparities in this occupation were eliminated Labour trends tend to be immobilewhy?

Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Labour Unions Unions There are two main types of labour unions: Industrial unions include all workers in a certain industry. Craft unions include workers in a particular occupation and restrict who can be members. Winnipeg Free Press Fri. April 15 McDonalds 2015 by McGraw-Hill Ryerson Ltd. 74 Job Job Discrimination Discrimination Job discrimination relates to hiring, wage, and promotion decisions based on criteria other than a workers credentials or performance.

Job discrimination can be direct, in which case employees are paid different amounts for substantially the same work. Job discrimination can also be indirect, involving a discriminatory division of jobs. http://www.upworthy.com/jimmy-fallon-asks-folks-about-equal-pay-and-they-dance-their-ans wers-really-see-for-yourself https://www.youtube.com/watch?v=rDXBM22wbrg&safety_mode_redirect=1&safe=acti ve&ytsession=YRt9Rm3tJmxWaZMOZUUkCGOwbN4kznfxKQrk2lKJIDF9_zRWQbnGJE0yqs mLPLyNqYmKVOWVYzpxeu0Wh4d3lLFbw2v8mlZnOz31y2iPR2mjLPMNgZjHKXKqToMFOR C2Ta7EjbPbua4SeRLXNiOyoB80PfyWKRk2vldZJEHywXC1dFOR-UrnQfio_7FN_gvbc9O-QW 5evYHTmZ6kzdA_qF_VydAJPIxOrYPtvUjNo1MyhK5gv4TLE1jUMI4MZ1GQCJE3-nj_nUOCl3 5oAFN5U0rbWnyYiKqyEWjkvQHJSY0Btd26YXc1d_jai4YbUxvOF9V20RdS9GI (Anchorman) Winnipeg Free PressOctober 30 (B10), 31 (B7) http://www.payequity.gov.on.ca/en/about/pubs/genderwage/wagegap.php http://www.msn.com/en-ca/money/topstories/ontarios-gender-pay-gap-ladder-gets-stee per-as-incomes-rise/ar-BBrUael?li=AAgh0dA&ocid=mailsignoutmd Ugly people prejudice 75 http://www.amazon.com/Beauty-Pays-Attractive-People-Successful/dp/0691140464

Reasons for Income Inequality (Other Other Causes of Income Inequality Incomes) There are three main reasons for income inequality in addition to wage determinants: risk-taking ability Wealth (Winnipeg Free Press Fri. April 15 offshore account) http://www.cbc.ca/news/business/cra-panama-papers -1.3778888 http://www.cbc.ca/news/business/panama-papers-icij -database-public-search-1.3573622 Wealth is more unequally distributed than income.

http://www.msn.com/en-ca/money/news/meet-theworlds-50-richest-billionaires-of-2017/ss-BBGGOmT? 2015 by McGraw-Hill Ryerson Ltd. 76 Wealth Distribution in Selected Countries http://www.cbc.ca/news/business/panama-papers-offshore-secrecy-report-sti glitz-1.3850956?cmp=rss&cmp=news-digests-canada-and-world-morning 2015 by McGraw-Hill Ryerson Ltd. 77 7.5 Practice Problems Page 200 #1Lorenz Curve; #2wage differences Thinking About Economics Suppose three friends graduating from high school choose different career paths: the first enters the workforce directly as a clerical worker, The second enrolls in a university arts program for a major in English literature with a focus on medieval poetry, and The third pursues a degree in computer science What do these decisions suggest about the

friends economic choices? Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. AnalysisFriend 1 According to the economic view of human capital, by not making a further investment in education the first friend sacrifices possible income gains later in life for immediate earnings In other words receiving a dollar in purchasing power now is worth much more to this individual than receiving greater purchasing power in the future Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. AnalysisEnglish Major The English major is willing to give up immediate income for future benefit and will likely have a future income greater than the first friends but perhaps not as much as he would if he pursued another type of postsecondary education This friend sees the knowledge he will gain from his post-secondary education primarily as a consumption item rather than as an investment in human capital Copyright 2008 by McGraw-Hill Ryerson Limited. All

rights reserved. AnalysisFriend 3 The third friend is also willing to give up immediate income for future increases in welfare She views education as an investment in her human capital to increase future earning power and, hopefully, as a source of pleasure as well Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Is any one of these economic choices more rational than the others? None of these economic choices is more rational than the others. Each option merely represents different preferences concerning the acquisition of knowledge, and the timing of income flows. Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Budgeting https://www.youtube.com/watch?v=y0xzK_MjXNU David Chilton on

George Stromouse this one https://www.youtube.com/watch?v=VP7oANMa9Gc David Chilton advice to USA http://www.cbc.ca/strombo/videos/interview-david-chilton Wealthy Barber Returns http://www.cbc.ca/news/business/mortgage-pay-off-tips-1.3304291?cm p=rss&cid=news-digests-canada-and-world-morning http://www.investopedia.com/articles/personal-finance/102915/ten-commandments-personal-finance. asp?utm_source=PF&utm_medium=email&utm_campaign=PF-11/10/15&utm_term=personal-finance http://www.msn.com/en-ca/money/spendingandborrowing/%E2%80%98shark-tank%E2%80%99-invest or-kevin-o%E2%80%99leary-these-are-the-2-worst-mistakes-people-make-on-black-friday/ar-BBFyOSl?li =AAadgLE&ocid=ientp Stats Canada http://www.statcan.gc.ca/eng/start Household income in Canada: Key results from the 2016 Census http://www.statcan.gc.ca/daily-quotidien/170913/dq170913a-eng.htm 2015 by McGraw-Hill Ryerson Ltd. 85 The Poverty Line

Statistics Canada defines as poor any household that spends more than 64% of its after-tax income on food, clothing, and shelter. In dollar terms, the poverty line (also known as the low-income cut-off LICO) depends on the number of household members and the size of the community they live in. People in rural areas or small towns can generally live more cheaply than those in urban centres Low income cut-offs (LICOs) before and after tax by community and family size in current dollars annual http://www5.statcan.gc.ca/cansim/a26?lang=eng&retrLang=eng&id=2060094& &pattern=&stByVal=1&p1=1&p2=31&tabMode=dataTable&csid = https:// www.ctvnews.ca/politics/federal-liberals-hope-new-legislation-will-slashpoverty-by-50-per-cent-1.4165649 Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. The Poverty Line for Various Households (2004) Figure 7.14, page 191 Size of

Household Unit 500 000 and over 1 person 2 persons 3 persons 4 persons 5 persons 6 persons 7 or more persons Rural Areas Urban Areas (categorized by size) $16 20 25 31 36 40 44 853 512

542 865 285 241 107 100 000 to 499 999 $14 253 17 347 21 601 26 948 30 686 34 032 37 378 30 000 to 99 999 $14 17 21 26 30 33 36 075 131

332 613 032 610 931 Less than 30 000 $12 617 15 357 19 121 23 856 27 165 30 127 23 089 $11 13 16 20 23 26 28 025 418 709 844

736 324 912 Individual low-income status (6) http://www12.statcan.gc.ca/census-recensement/2016/dp-pd/dt-td/Rp-eng.cfm?LANG=E&APATH=3&DETAI L=0&DIM=0&FL=A&FREE=0&GC=0&GID=0&GK=0&GRP=1&PID=110264&PRID=10&PTYPE=109445&S= 0&SHOWALL=0&SUB=0&Temporal=2016&THEME=119&VID=0&VNAMEE=&VNAMEF = Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. The Incidence of Poverty Using Stats Canadas LICO poverty line an estimated 3.5 million Canadians lived in poverty in 2004 870,000 were children under the age of 18 Children living in lowincome households http://www12.statcan.gc.ca/census-recensement/2016/as-sa/98-200-x/20160 12/98-200-x2016012-eng.cfm Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. The Incidence of Poverty (b) Figure 7.15, page 192 Percentage of Households Below the Poverty Line in 2004 All persons

11.2 Gender Males Females 10.6 11.7 Age Under 18 Between 18 and 64 65 and over 12.8 11.7 5.6 Persons in economic families Males in economic families Females in economic families Elderly persons in economic families Persons under 18 in female lone-parent families Persons under 18 in two-parent families 8.1

7.5 8.6 1.6 40.0 8.1 Unattached individuals Males Females Elderly males Elderly females Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. 29.6 28.7 30.5 11.6 17.0 Gender Household Type and Age Poverty rates are higher among unattached individuals than among those who are part of an economic family Unattached females are more likely to be poor than unattached males Single-parent families are more likely to be poorer than two-parent families

Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Employment While poverty is more common among the unemployed, a notably high proportion of the employed are poor as well For nonelderly unattached individuals classified as poor a large portion are employed for at least part of the year This group is known as the working poor They are often found in primary industries like fishing where wages are low and seasonal employment is common Minimum Wage and Poverty Region Historically poor households tend to be concentrated in certain regions particularly the Atlantic provinces and parts of Quebec Poverty exists throughout Canada e.g. over a third of Canadas poor live in Ontario Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Debates over the Measurement of Poverty In recent years there has been considerable criticism of the use of Statistics Canadas LICO measure The federal government has recently introduced an alternative

measure of poverty known as the Market Basket Measure (MBM) which is based on an absolute definition of those items considered as necessities Measures of Poverty http://www.statcan.gc.ca/eng/start Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. 7.4 Debates over the Measurement of Poverty A household making an income lower than the amount needed to buy these items is then considered poor using the MBM measure International Labour Organization (ILO) stats http://www.ilo.org/global/topics/economic-and-social-devel opment/poverty/lang--en/index.htm http://www.globalissues.org/article/4/poverty-around-theworld#WorldBanksPovertyEstimatesRevised Winnipeg Free Press Tuesday, November 21, 2017 A3 Coalition demands plan for child poverty Thursday, November 23, 2017 A6 Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Transfer IncomeSociety Taxes

7.5 ThePayments Canadianand Welfare A welfare society is one in which the government plays a major role in attempting to ensure the economic well-being of its citizens. Transfer payments and personal income taxes are the most important elements of Canadas welfare society. Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Transfer Payments and Income Equity Transfer payments are now usually based on the principle of means testing rather than universality. Universality benefits apply to all individuals no matter what their incomes Advantage: treating everyone in the same way Drawback: expensein order to provide substantial help to those who needed it most a large sum of money was paid to all recipients Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved.

Transfer Payments and Income Equity Means Testing transfer payments vary according to a recipients income Advantage: benefits can be directed to those who need them most so poor households receive the highest payments Drawback: governments may use means testing to limit spending by narrowing qualifications Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Transfer Payments and Income Equity Transfer payments are greatest as a percent of income for the poorest fifth of households, but the secondpoorest fifth of households receives the largest share of these payments. Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Transfer Payments and Income Equity (b) Figure 7.16, page 195 Average Transfer Payments Received

(2004) Lowest 20% Second 20% Third 20% Fourth 20% Highest 20% Average of Total $7 000 9 300 8 000 6 500 4 800 7 100 Transfer Payments as a Percent of Total Income (2004) 54.5% 31.4 16.9 9.0 3.4 11.7 Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved.

Share Received of Total Transfer Payments (2004) 19.7% 26.1 22.5 18.3 13.5 Impact on Income Distribution Government transfer payments to individual households from all three levels of government are an average of between 10 and 20% of households income Payments to unattached individuals represent a larger proportion, as a rule, than for families Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Principles of Taxation Principles of Taxation

There are two main principles of taxation: benefits received (e.g. gasoline taxes for roadwork) ability to pay (e.g. personal income tax) In this world nothing can be said to be certain, except death and taxes. Benjamin Franklin Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Benefits Received Suggests that taxes should be geared to the benefits each taxpayer gains from government activity In this case government services are paid for in the same ways that products are bought and sold in the private sector The guiding philosophy behind some taxes e.g. proceeds from gas taxes are often earmarked for road construction and maintenance Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Impact on Income Distribution progressive taxes: increase as a proportion of income as income rises Well-off tax payers are taxed more in both $ terms and % terms

Canadian income tax rates for individuals - current and previous years http://www.cra-arc.gc.ca/tx/ndvdls/fq/txrts-eng.html Provincial and territorial tax and credits for individuals http://www.cra-arc.gc.ca/tx/ndvdls/tpcs/ncm-tx/rtrn/cmpltng/prvncl/menu-eng.html Series: Payroll Information for a New Small Business http://www.cra-arc.gc.ca/vdgllry/bsnss/srs-pyrll-eng.html?clp=bsnss/srs-pyrll7-rv14-eng&fm t=mp4 Payroll deductions and contributions http://www.cra-arc.gc.ca/tx/bsnss/tpcs/pyrll/clcltng/menu-eng.html Warren Buffett, Secretary Discuss Tax Rates http://abcnews.go.com/GMA/video/warren-buffett-secretary-debbie-bosanek-interview-discu ss-tax-rate-inequality-15446023 Tax Havens http://www.cbc.ca/news/investigates/panama-papers-canada-tax-haven-1.3950552 Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Proportional Taxes proportional taxes: stay constant as a proportion of income as income rises While taxpayers with different incomes pay proportionately the same tax, the well-off taxpayer pays a higher $ amount E.g. Income $10 000 taxed at 6% pays $600 $20 000 taxed at 6% pays $1 200 Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved.

Regressive Taxes regressive taxes: decrease as a proportion of income as income rises Taxpayers with low incomes pay proportionately more of their incomes for the tax than do well-off taxpayers even though the well-off taxpayer may pay more as a $ amount http://www.cbc.ca/news/canada/edmonton/alberta-budget-delivers-t ax-increases-for-1st-time-in-years-1.3010696?cmp=rss&cid=news-dige sts-canada-and-world-evening http ://www.investopedia.com/ask/answers/042415/what-are-difference s-between-regressive-proportional-and-progressive-taxes.asp http://reffonomics.com/ReffonomicsOnlineActivitiesWeek9An.html Taxes and Income Equity Sales and excise taxes tend to be regressive (unless combined with a system of tax credits) since the poor spend a higher proportion of their incomes on consumption items than do the rich who are most likely to save part of their incomes Property taxes are often regressive, largely because the poor devote a higher proportion of their incomes to housing than the rich do Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Taxes and Income Equity

Corporate income taxes are difficult to classify as either progressive or regressive To the extent that these taxes these taxes reduce the income of shareholdersa rich group of Canadian society they are progressive Corporations that have considerable market power may succeed in passing on the burden of tax to consumers in the form of higher prices for their productin this case the corporate tax is regressive Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Taxes and Income Equity Personal income taxes are progressive, with the proportion of income paid in tax rising significantly with a households income level Post-tax incomes in Canada are much more equally distributed than they would otherwise be Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Federal and Manitoba Tax Rates 2018 https:// www.canada.ca/en/revenue-agency/services/tax/individuals/frequently-asked-questi

ons-individuals/canadian-income-tax-rates-individuals-current-previous-years.html 2015 by McGraw-Hill Ryerson Ltd. 109 Personal Income Taxes and Income Equity (2004) Figure 7.17, page 197 Average Personal Income Taxes Paid Lowest 20% Second 20% Third 20% Fourth 20% Highest 20% Average of Total $ 700 2 700 6 300 11 900 31 900 10 700 Personal Income Taxes as a Percent of Total Income

5.4% 9.1 13.3 16.4 22.4 17.5 Copyright 2008 by McGraw-Hill Ryerson Limited. All rights reserved. Share Paid of Total Personal Income Taxes 1.2% 5.0 12.0 22.3 59.5 Gross and Net Pay Example Gross Pay 7400 Deductions CPP 340 EI 160 Income Tax 1500

Blue Cross 200 Disability 100 Co. Pension 700 Union 100 Parking 20 Total Deductions 3120 Net Pay 4280 2015 by McGraw-Hill Ryerson Ltd. 111 The The Doomsday Doomsday Prophet Prophet Thomas Malthus formulated a theory of population based on two principles: food increases in an algebraic progression (1,2,3) population increases in a geometric progression (1,2,4)

He predicted that over time population growth would outstrip growth in the food supply with disastrous effects 2015 by McGraw-Hill Ryerson Ltd. 112

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