Consider the following diagram of a tax. The triangular area representing deadweight loss is highlighted, and its dimensions are labeled €œBase€ and €œHeight€ (recall that the formula for the area of a triangle is 1/2 × Base × Height).

a. In order to calculate the deadweight loss of a tax, you don€™t need the entire demand and supply diagram; you just need to know two numbers, the base and height of the deadweight loss triangle. What is the real-life meaning of the base? What about the height?
b. Can you turn your answers to part a into general rules about the deadweight loss associated with taxes? Try phrasing it like this but replacing the part in brackets: €œThe larger the [base or height], the more deadweight loss is generated by a given tax.€
c. Holding the base constant, the height and thus the deadweight loss would get larger if the demand curve or the supply curve were more_________?
d. Without having a diagram as a reference, can you answer the preceding questions for a subsidy?

Transcribed Image Text:

Price Supply BaseHeight Demand Quantity