Per-unit (specific) taxes and subsidies create a constant wedge per unit traded. This wedge changes prices paid and received, reallocates surplus, alters equilibrium quantity, and typically generates deadweight loss.

Core idea: a per-unit wedge changes incentives

A per-unit tax raises the cost of trading each unit by a fixed dollar amount; a per-unit subsidy lowers it by a fixed dollar amount. In competitive markets, these policies shift the relevant curve and create a gap between what buyers pay and what sellers receive.

With a tax, consumers face a higher effective price, and firms effectively receive a lower net-of-tax price. With a subsidy, consumers face a lower effective price, and firms receive a higher effective price (inclusive of the subsidy).

Graph mechanics (supply–demand model)

Per-unit tax

• Model it as an upward/left shift of supply by the tax amount (if imposed on sellers), or a downward/left shift of demand (if imposed on buyers).

• The market result is equivalent either way: the tax creates a wedge and reduces quantity.

This wedge is central for identifying consumer price, firm (producer) revenue per unit, and the resulting changes in surplus and quantity.

This supply–demand diagram shows a per-unit tax creating a vertical wedge between the price consumers pay and the price producers receive. The labeled shift from $P_e$ to $P_c$ (buyers) and to $P_p$ (sellers) illustrates how the tax drives a gap of size $t$ and reduces the equilibrium quantity from $Q_e$ to $Q_t$. Source

Per-unit subsidy

• Model it as a downward/right shift of supply by the subsidy amount (if paid to sellers), or an upward/right shift of demand (if paid to buyers).

• A subsidy creates a wedge in the opposite direction: the buyer price is below the seller price.

Market outcomes to track (AP focus)

Consumer price and firm revenue

• Consumer price (price paid): rises with a tax; falls with a subsidy.

• Firm revenue (price received):

  • With a tax, firms receive the net price $P_p$ (lower than $P_c$).

  • With a subsidy, firms receive a higher effective price than consumers pay (the difference is funded by government).

Equilibrium quantity

• A per-unit tax decreases equilibrium quantity because mutually beneficial trades at the margin are deterred.

• A per-unit subsidy increases equilibrium quantity because additional units become privately worthwhile to buy/sell.

This diagram shows a per-unit production subsidy shifting the supply curve outward (from $S_d$ to $S_s$), increasing the quantity supplied from $Q_1$ to $Q_3$ at the prevailing price line. It also highlights that the price received by producers can exceed the market price by the subsidy amount, with the difference financed by the government. The shaded region emphasizes the efficiency cost that can arise when the subsidy induces extra production beyond the efficient benchmark. Source

Surplus changes and deadweight loss

• Consumer surplus (CS):

  • Tax: typically falls (higher price paid and lower quantity).

  • Subsidy: typically rises (lower price paid and higher quantity).

• Producer surplus (PS):

  • Tax: typically falls (lower net price received and lower quantity).

  • Subsidy: typically rises (higher effective price received and higher quantity).

• Government revenue or cost:

  • Tax: government revenue equals tax per unit times the taxed quantity.

  • Subsidy: government cost equals subsidy per unit times the subsidised quantity.

• Deadweight loss (DWL): the loss of total surplus from trades that no longer occur (tax) or from extra trades whose marginal benefit is below marginal cost (subsidy in a simple efficiency benchmark). DWL increases as the quantity distortion grows.

Incidence (who bears the burden/gets the benefit)

Tax incidence depends on relative elasticities:

• More inelastic demand ⇒ consumers bear more of the tax (larger increase in $P_c$).

• More inelastic supply ⇒ producers bear more (larger decrease in $P_p$). The same logic applies to subsidy benefits: the side with more inelastic behavior captures more of the per-unit subsidy via a more favorable price.