People who suffer from mange can purchase either of two cures: Mange-Away, which is made in the United States and sold by producers who have an upward-sloping supply curve, or Look-Ma-No-Mange, which is made in Mexico and available in any quantity at $5 per dose. The supply curve for Mange-Away crosses the (U.S.) demand curve for mange cures at a price of $8 per dose. To the individual mange sufferer, Mange-Away and Look-Ma-No-Mange are interchangeable products. But although Mange-Away cures the disease, it also leaves the patient contagious to others. Look-Ma-No-Mange both cures the disease and renders the patient noncontagious; thus, every user of Look-Ma-No-Mange confers $1 worth of external benefits on his neighbors.
In order to encourage people to use more Mexican Look-Ma-No-Mange, the government has imposed a sales tax of $1 per dose on American Mange-Away.
a. Before the tax is instituted, how much can U.S. producers charge for Mange Away? After the tax is instituted, how much can U.S. producers charge for Mange-Away? Does the tax have any effect on the amount that U.S. consumers must pay for mange cures?
b. Use a graph to show the quantities of Mange-Away and Look-Ma-No-Mange that Americans buy both before and after the tax is instituted.
c. Use your graph to show how the tax on Mange-Away affects the welfare of all relevant groups of Americans, including the neighbors of potentially contagious mange sufferers and the recipients of tax revenue.
d. Does the tax on Mange-Away create a net social loss or a net social gain? Of how much?