Reference no: EM131808441

Assume that all consumer goods can be divided into two composite goods, called "basics" (which include goods like gasoline, oatmeal, milk, and other boring necessities of life) and "extras" (which includes awesome goods like sports cars, 60" televisions, and other stuff you could probably survive life without purchasing, but are stil awesome). The price elasticity of demand for "basics" is -0.4 and the price elasticity for "extras" is -2. Basics and extras are unrelated in consumption (neither substitutes or complements). a. If an ad valorem tax is imposed so that the total DWL is minimized, what should the ratio of the tax rate on "basics" be to the tax rate on "extras"? b. There are two groups of consumers, poor and rich, with equal numbers in each group. Poor individuals have incomes of $30,000 per year and spend 100% of their income on basics. Rich individuals have incomes of $80,000 per year and spend 50% of their income on basics and 50% of their income on extras. If basics are taxed at a rate of 40%, and extras are taxed at a rate to minimize excess burden (using your answer in Part A), will this set of commodity taxes be regressive, proportional, or progressive? Justify your answer by calculating the average tax rates for rich and poor individuals.