28. Explain how taxes reduce consumer and producer surplus.

Total surplus is reduced, no matter where the incidence of it is applied. The resultant loss is known as a Deadweight Loss, which comes about because the tax causes the price of the good to either the producer or consumer (or both) to rise, causing less to be produced and/or less to be consumed. 

Put another way: Total surplus falls because people and firms sell or buy less of a good when the tax adds to its price. The effective price paid may rise, causing the demand curve to shift to the left, or the effective price received may fall, causing the supply curve to shift to the left, creating the Deadweight Loss. This means that some people that would have engaged in trade without the tax, no longer are "willing and able" to buy or sell the good, meaning their surplus disappears, and the tax revenue that would have been derived from their market participation disappears as well. Thus, taxes always cause Deadweight Losses for society and always negatively effect the free market system. (Not getting into politics, that's simply the truth in this narrow view- considering what that tax revenue is used for is completely separate)

29. The meaning and causes of the deadweight loss from a tax.

DEFINITION of 'Deadweight Loss Of Taxation'

A loss of economic well-being imposed by a tax. The loss occurs because taxation makes the taxed good or service less attractive, reducing individuals' desire to purchase that product. Furthermore, taxation reduces incentives to work beyond a certain point, causing individuals to prefer to take additional leisure time. The tax also causes taxpayers to suffer financially and/or to change their behavior to avoid or reduce the burden of the tax. Such outcomes create a loss to society because the money collected as a tax could have been used in a more economically productive way, as could the time individuals spent on their tax-avoiding behavior and the time and money spent to impose and collect the tax. The more the demand and supply of a good or service change in the face of a tax, the greater the deadweight loss of taxation.

Causes of deadweight loss can include actions that prevent the market from achieving an equilibrium clearing condition and include taxes; monopoly pricing (in the case of artificial scarcity), externalities, taxes or subsidies, and binding price ceilings or floors (including minimum wages).

30 Describe why some taxes have larger deadweight losses than others. Explain how tax revenue and deadweight loss vary with the size of a tax.

Tax revenue varies with the proportion of the tax as a percentage of the product price. In most cases, a moderate tax rate will yield the most tax revenue, as can be seen from the first diagram above. When the tax rate is small or high, tax revenue will be less. When the tax rate is small, the government only gets a small portion of the price paid. When the tax rate is high, then the quantity sold is much less, so even when it is multiplied by the high tax rate, it yields little revenue, which can be seen in the diagrams below. Also illustrated is that the deadweight loss of a high tax rate is much greater than the deadweight loss of a low tax rate.

As can be seen from the graph on the left, as taxes are increased, the deadweight loss of the tax also increases, gradually at first, then steeply as the size of the tax approaches the market price of the product without the tax. Likewise, tax revenue increases at first, but then starts to decline as a decrease in quantity more than offsets the increase in the tax rate.