Where did the gains
from trade go?
Four buyers want one repair each. Four sellers can each do one repair. A tax changes the prices they face. Find the repairs that still happen, then follow the gains from trade.
1 of 6 · Start with the trades
Before the tax
Each buyer's value (willingness to pay, or WTP) is the highest price they would pay. Each seller's cost includes the resources and time used for a repair. At a market price of $5.50, how many repairs will be bought and sold?
Choose a quantity. There is no penalty for trying again.
Who still trades?
A $4 tax per completed repair makes buyers pay $8.50. Sellers keep $4.50. Government receives the $4 difference as tax revenue.
Choose all willing buyers and all willing sellers.
After the tax: which repairs still happen?
On a small screen, scroll the table sideways to see every column.
Commit to your prediction before opening the ledger.
On a small screen, scroll the table sideways to see every column.
Tax revenue or deadweight loss?
Pause and explain the change in your own words. Then test the explanation in a contrasting case.
Say or write privately:
- Which part of consumer surplus and producer surplus became government tax revenue?
- Which gains from trade were lost when repairs were cancelled? Why is this deadweight loss?
Your explanation stays with you. There is no answer box.
Return to Top Hat
Answer the next Top Hat question when your instructor asks you to.
Can a tax raise revenue without losing trades?
Try a $0.50 tax. Buyers pay $5.75 and sellers keep $5.25. Compare those prices with the four values and costs.
Make a prediction before comparing the accounts.
On a small screen, scroll the table sideways to see every column.
Tax revenue is a transfer in the total-surplus calculation. A cancelled repair loses the buyer value minus the seller cost. With no cancelled trades, no gains from trade are lost, so deadweight loss is zero.
Use the reasoning somewhere else
Two pottery buyers value one mug each at $15 and $9. The corresponding seller costs are $6 and $7. Both mugs sell without tax. A $3 tax leaves only the first sale, with buyers paying $9.50 and sellers receiving $6.50.
Compare the tax revenue from the continuing sale with the lost gains from trade from the cancelled sale.
Practice complete
Tax revenue belongs in total surplus. Deadweight loss comes from beneficial trades that no longer happen under this model's assumptions.
Model assumptions and prices
This hypothetical competitive market has no externalities, tax collection costs or administration costs. Each person trades at most one repair. Rows are efficient marginal pairings, not mandatory partners. Reservation values do not change when the tax changes.
Discrete clearing prices can lie in an interval. The displayed prices are valid clearing prices, not unique predictions. Tax revenue counts dollar for dollar in total surplus; benefits of government spending are outside this account. This exercise alone does not settle real tax policy.