Deadweight Loss of Taxation

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Definition: Deadweight Loss of Taxation

The largest chunk of revenue source for most of the governments in the world is taxation of various transactions, services, and income of individuals and companies among other things. The value generated by any transaction to the buyer and seller is reduced by tax imposed on it by the government. Simply understanding, this loss to both the interacting parties is due to the excess payment that the buyer does to take care of tax and the supplier also receives less to take care of tax.

Obviously, in the scenario mentioned, government gains from the taxes imposed and generates revenue that helps it to meet its obligations and do development related activities for the country for the betterment of the individuals. But it has been recognized that the loss to the market participants i.e. buyers and suppliers during the transactions is more than the gain to the government in the form of revenue generation.

The following diagram represents that as a whole the economy always loses some value due to taxation which is referred to as Deadweight loss of taxation.


P2 – Price buyers pay

P1 – Market Price without taxes

P0 – Price sellers receive



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