Posts tagged income

Section 3.6 Writers Workshop

1. With the use of examples, explain the difference between a progressive tax and a regressive tax. (200-300 words)

A progressive tax is a tax by which the tax rate increases as the taxable base amount increases.

One example of a progressive taxation is how the tax increases according to the increase in the income. Let’s say that the first-year teacher gets $30,000 a year. The teacher only had to pay 5 % taxation from his income. As he worked hard for 10 years, he became a principal and he gets paid $100,000 a year. Because his income increased, the taxation percentage increased by 20% off his income. Therefore, as income increases percentage taxation increases.

Opposite to progressive tax, a regressive tax is a tax imposed in such a manner that the tax rate decreases as the amount subject to taxation increases.

For example, an employee in a company gets paid $20,000 a year. He pays 20% off his income as a tax. He works hard and he gets paid $60,000 a year. However, his taxation percentage decreased to 5%. He only has to pay 5% off his income. The overall taxation increased due to his increased income. However, the taxation felt by skin has decreased dramatically. When he used to get paid $20,000 a year, he had to cut down some significant expenditure on necessities to pay a tax. However, as his income increased, he only has to cut down on some unnecessary expenditure on luxuries.

2. With the use of examples explain the difference between direct and indirect taxes.  (200-300)

The definition of direct tax means a tax imposed directly to a person by the government. This includes income tax, corporate tax, transfer tax and many more. It’s pretty much straight forward because you have to pay these taxes directly to the government. This form of the taxation is one of the big financially burden the taxpayers must deal with.

Indirect tax is very different to the direct tax in a sense that it is a tax imposed by intermediary means. It is not that burdensome as direct tax, however, it could raise the price of the products that people consume. This form of taxation includes sales tax, value added tax (VAT), and goods and services tax. For example, an indirect taxation could take place when you take a shower by paying the water fee and by using electricity involved in pumping and warming up the water. VAT could be one of the more familiar indirect taxation. VAT taxation takes the money out of people by taxing products that are sold to people. For example, if a person buys a drink, the price might be 140 yen and 10 yen VAT. If you go to a 100-yen store, you always have to bring 10 yen to pay off the VAT.

3. Identify two ways that the government can use taxation to redistribute income. (200 – 300)

Redistribution of income is an important factor in making the taxation more or less progressive or regressive. There are approximately two ways that government use taxation to redistribute income.

Firstly, the government could spend the tax on building public schools and hospitals that the masses use. By spending money on the facilities that ‘poor’ people really use, the government could redistribute the wealth concentrated on the top 10% of the population to the rest of the population. This makes the taxation more progressive.

IF the government were to spend these money on building luxury facilities that ‘rich’ people use a lot and not the ‘poor’ people, it would be a poor redistribution of income. The taxed money from the rich people will just flow directly toward them again.

Secondly, the government can make the indirect tax regressive. As most of the people consuming are common people, the government can redistribute income by taking less tax from people by indirect taxation. ‘Rich’ people comprise of approximately 5% of the population, so it would not be effective to charge more in indirect taxation as there are about 60% of the population who will have to bear the financial burden. In addition, these common people buy and consume products more than the rich people; therefore the government must make the indirect taxation regressive if they want to redistribute income.

4. Discuss the advantages and disadvantages of using taxation to redistribute income (200-300)

There are advantages and disadvantages of using taxation to redistribute income.

Governments often use progressive taxation, in which the taxation increases with the increase in income, to redistribute income to overcome the ineffectiveness of the market system. This often results in positive effects because it takes the financial burden off the group of people with lower income. For example, these low-income group cannot build their own schools because of the enormous costs involved in building a campus and paying the faculty members. Conversely, the rich people might be able to because they have the financial capacity to pay for it. Therefore, the common people can benefit from this kind of redistribution of income by governments using tax moneys for them. Also, they take the money off the rich people more (progressive taxation) to do this kind of thing.

However, everything has two sides. There is one disadvantage of using taxation to redistribute income. This might be a result in demerit for rich people to work hard. Also, people might get lazy in working hard to increase their standards of living because of the government’s redistribution of income. Also, there is some criticism to the redistribution of income by saying that this is not ‘fair.’ These kinds of people often argue that the government’s attempt to make equity amongst the population is actually causing unfairness to the upper income group.

In addition, it could be a disincentive to unemployed people. If there are too many transfer payments to the unemployed workers, there would be an increase in unemployment rate because it works as a disincentive for these people to find the job. They might as well stay at home and get paid from the government.


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Data Response – Measuring National Income

1. Explain whether you agree or disagree with each of the following:

(a) You have just read in the news that GDP in your country increased by 4% this year over last year. You therefore conclude that the quantity of output produced increased by 4%.

  • I agree with the statement under the condition that there weren’t any inflation or deflation. If the inflation/deflation rate was 0% that year, the quantity of output has increased by exact 4%. However, if there were inflation/deflation, then the ‘actual’ quantity of output will be different.

(b) In the early 1990s, following the collapse of the Soviet Union, many eastern European and former Soviet Union countries experienced negative net investment for a period of time. This means there was a drop in their stock of capital goods.

  • I disagree with this statement. Negative net investment does not mean that there was a drop in stock of capital goods. Instead, it means that the rate of increase in stock of capital good has dropped.

(c) If a government wants a measure of its population’s income per capita it should use GDP per capita; if it wants a measure of the quantity of output produced per capita it should use GNP per capita.

  • I disagree with this statement. GDP per capita cannot be used to measure the population’s income per capita. They are different index. GDP per capita means the average amount of stuff one can produce and this does not necessarily mean the person’s income. Income per capita could be lower than GDP per capita. For example, you do not earn $10 dollars by selling $10 CD album. Instead, you earn money (income) from the margin. If you spent $5 to make that CD album, then your margin is $5. So the income per capita does not necessarily the same as GDP per capita.
  • If one wants to measure the quantity of output produced per capita then they should use GDP per capita, not GNP per capita.

(d) GDP per capita is a better indicator of a country’s welfare than total GDP, because it calculates the amount of output produced per person in the population.

  • I agree with this statement. Even if a country has $10 trillion as their GDP, like India, lots of people are under abject poverty. India’s GNP, instead, is way lower than its GDP. GNP is a better way of calculating a country’s welfare.

(e) The average American is 12.5 times richer than the average Russian, since US GDP per capita is 12.5 times greater than Russian GDP per capita, based on the dollar–rouble exchange rate. (The rouble is Russia’s national currency.)

  • I agree with this statement. GDP per capita could be used to compare wealth of individuals in two separate countries. However, there is one flaw to GDP per capita. It is the unpredictable exchange rate. If rouble gets weak against a dollar, then GDP per capita of Russia could go lower. In converse, if it gets strong, its GDP per capita will increase. So if two countries had a similar (10-20% difference) of GDP per capita, then it will be hard to compare the individual’s wealth in those countries.

2. Compare and contrast the problems involved in measuring economic growth and measuring economic development. (10 marks)

  • We should be clear in the definitions of two separate economic terms. Economic growth indicates the growth in GDP of a nation, normally, and economic development includes improvement in standard of living. Economic growth can tell you how an economy has grew in a country, however, the economic growth doesn’t necessarily lead to improvement of economic development. To say there was an economic development, there has to be several factors considered: life-expectancy rate, literacy rate, GDP per capita, and more.

3. Explain three possible limitations of using GDP as a measure to compare welfare between countries. (10 Marks)

  • First, nominal GDP’s do not calculate inflation/deflation rate. So, it is limited in comparing welfare between countries.
  • Second, exchange rate could alter the GDP of countries, therefore, it is limited in comparing welfare between two countries.
  • Third, GDP does not include other activities such as illegal drug dealing or NGO activities. This could have large portion of a country’s GDP. For example, the illegal drug dealing has 20% of US GDP.

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