UtilityMinimization

In a recent post, consumer advocate website The Consumerist detailed how wireless telephone provider Cingular chooses the discounts customers get when they are finished with their contract. The short version is that Cingular uses a ranking system called Life Time Value (LTV), which is a ranking of how much you spend. If you are a high LTV customer, you receive greater discounts than lower LTV customers. According to the documents posted on The Consumerist, Cingular says, “Some customers contribute more value to Cingular … we are most interested in keeping the most valuable customers.”

Also found in the same set of documents is that Cingular calculates the “churn potential” of a customer. The idea here is that some customers are more likely to leave than other based on past history, number of other lines they have with Cingular, and other factors. This type of treatment makes sense on the part of Cingular as they want to keep their best customers and jettison customers who do not make them money. Also, customers that are more likely to leave will get better discounts than those who will stay. This type of pricing falls within an area of economics called price discrimination.

Read the rest of this entry »

A while back a friend of mine extolled a new stadium deal in Kansas City, MO because the Mayor, Kay Barnes, was able to raise the money to pay for the new stadium without raising taxes on Kansas City residents. The scheme: Charge hotel guests in the city a tax on their hotel rooms and charge those who rent cars a fee on their rental cars (my friend assumes that practically nobody stays in a hotel or rents a car in their own city). The beauty of this plan was that all the money to pay for the stadium was coming from those outside the city, and that people from KC would get to enjoy the stadium without having to contribute any tax dollars to the city coffers. As I hope to show you from the economic theory of tax incidence, this sentiment is only partially true, at best, and might be dead wrong at worst.

The first thing we want to do is differentiate between who pays the tax and who bears the economic cost of the tax. This is known as the difference between the statutory burden and economic burden of taxation. The statutory incidence of a tax is simply the dollar amount the party who is legally responsible for collecting and remitting the tax to the government must pay. For example, the statutory incidence for the retail sales tax falls upon the vendor. Each taxing period, the vendor at your local convenience store must mail a check for some percentage of their sales to the state and local taxing authorities. In the case of the personal property tax, you, the property owner, bear the statutory burden of the tax because you are responsible for collecting the money (from yourself) and sending a check to the city.

Read the rest of this entry »