Consider the perfectly competitive wheat sector in Pakistan. To begin with, consider that the economy is closed to trade. The government imposes a consumption tax of $10 per unit, consumers pay $20 per unit and the equilibrium quantity sold is 10,000 units. Demand elasticity is 2 and supply elasticity is 1. The government then removes the consumption tax. What would be the autarky consumption and production levels in this economy? 

What would be the welfare gain from the removal of the consumption tax? 

Starting with autarky, what would (quantitatively) be the overall welfare gains if the government moved to free trade and allowed imports of wheat at the world price of $8 per unit. Do producers and consumers both gain from this movement to free trade? By how much ? If the production of Wheat generated a positive externality of $2 per unit, how would it change your quantitative assessment of overall welfare change with trade ?

Answer rating: 100% (QA)

1 Income Effect of taxation The tax reduces the purchasing power or real income of taxpayer It takes resources away from the taxpayer and transfers them to the government This is often referred to as ... View the full answer