Consider a government that collects tax on wages received by workers to provide public goods. This tax creates a wedge/difference between the wages paid by the firms and wages received by the workers. The tax revenue is equal to the product of tax rate and quantity of workers hired. There is no corruption or political pressure on how much of the public good the government produces.
- Suppose the labour demand equation is given by w = 400-2L and the labour supply curve is fixed at 190 units. If the tax rate is $10 per unit, calculate the tax revenue to be collected by the government. How many workers are hired before and after-tax is imposed? Show your steps.
- Now suppose, with the same labour demand equation, the labour supply equation is w= 120+6L. If the tax rate is $10 per unit, calculate the tax revenue to be collected by the government. Calculate and compare the number of workers hired before and after-tax is imposed. Show your steps.
- Between a and b, in which scenario labour supply is relatively more elastic? Comparing the answers for parts a and b, how is the elasticity of supply of labour related to the tax revenue collection?
- If the public good created out of tax revenue contributes to the infrastructure of the economy showing an improvement of government quality per person (g(y)) and give your answer in part (b) regarding the impact on the number of workers hired after-tax (affecting the GDP per capita of the economy) – show the impact on steady-state level of y and g using a well-labelled graph on y-g space (the graph used in Graded Assignment 3). Your graph must show and explain the correct shift (s) and the final point of steady-state.
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