Hi, the answer is provided, if you may explain with graphs what happening, it would be great!
In the UK, National Insurance is a system of taxes used primarily to fund state benefits. These taxes are paid partly by employers and partly by employees, and are generally taken as a percentage of wages. Suppose the Treasury is considering an increase in National Insurance and they wish to compare the effects of imposing a given amount of tax on employers or employees.
a) Assume labour markets are competitive and show using supply and demand diagrams what the contrasting long-term effects will be of imposing the tax on one group or the other?
The supply and demand diagrams should show that the effect of the tax is the same whether it is imposed on the employers or the employees.
b) Discuss any reasons why the short-term effects might be different.
If firms have contracted their wages in advance, then it’s possible that the incidence of the tax will more closely match the legal imposition (i.e. employers are likely to bear most of the incidence if the tax is imposed on them, and ditto for employees). But in the longer term, we should see wages adjust to reflect the results in part (a).
c) In general, what are the most important considerations for determining tax incidence in a competitive market? Explain.
Students should note that the elasticity of supply and the elasticity of demand are the most important considerations. More points will be awarded if this answer is supported with a graph.