Which of the following statements is true regarding the effects of a lump-sum tax?

• A. A lump-sum tax leads to a deadweight loss by distorting relative prices.
• B. A lump-sum tax causes the supply curve to shift upward by the amount of the tax.
• C. A lump-sum tax increases the equilibrium quantity in the market.
• D. A lump-sum tax does not change the marginal cost of production for firms.

Answer: (D)

Verified step by step guidance

1. Understand what a lump-sum tax is: it is a fixed amount of tax that does not vary with the quantity of goods produced or consumed. This means it is independent of the firm's output level.
2. Recall that deadweight loss occurs when a tax distorts relative prices, causing consumers and producers to change their behavior and reduce the quantity traded. Since a lump-sum tax is fixed and does not affect the price per unit, it does not distort relative prices.
3. Analyze the supply curve effect: a tax that depends on quantity (like a per-unit tax) shifts the supply curve upward by the amount of the tax because it increases marginal cost. However, a lump-sum tax is a fixed cost and does not affect marginal cost, so the supply curve remains unchanged.
4. Consider the equilibrium quantity: since the lump-sum tax does not change marginal cost or prices, firms' production decisions remain the same, so the equilibrium quantity in the market does not increase or decrease due to the lump-sum tax.
5. Conclude that the correct statement is that a lump-sum tax does not change the marginal cost of production for firms, and therefore does not create deadweight loss or shift the supply curve.