How to Calculate Deadweight Loss

Economics is all based on theories and trends, and provides us with an accurate prediction of results when we change internal or external variables. Deadweight loss occurs when there is a difference in price between the buyer and the seller; this is often induced by taxes. Deadweight loss is based on the difference between the quantity demanded when the market is operating efficiently and when the market is operating with taxes.

Instructions

Calculating Deadweight Loss

1. Draw the supply and demand curves.

2. Calculate price and quantity demanded at market efficiency.

3. Keeping supply constant, calculate the new quantity demanded and price after the tax has been applied or the inefficiency has been introduced.

4. Calculate deadweight loss using the equation D.L.= (0.5) (Change in Price x Change in Quantity Demanded). So if the price increases by 100 and quantity demanded is reduced by 50, the equation would look like:

   D.L.= (0.5) ($100 x 50) =

   (0.5) (5000) =

   $2,500

   This is the same as the area of the triangle formed by the supply curve, the demand curve and the line of the new quantity demanded.

References

• Congressional Budget Office: The Deadweight Loss from Price Subsidies