Jerry the repairman works in the town of Prattville. Jerry would prefer not to pay income tax on the revenues he receives in exchange for performing household repairs. As such, he asks to be paid in cash by his clients whenever possible. If he is paid in cash, it makes it possible for him not to report the income and so to evade income tax. Suppose that his gain for not reporting his cash income is 10. If he does not report his income when he has been paid by check, however, he can anticipate a loss due to fines of 50. His clients prefer to pay by check since this does not require them to lose time going to the bank each time they call the repairman. The clients face a loss in terms of inconvenience of 5 when they pay by cash. a. Depict the "game" played by Jerry and a representative client where the possible moves by Jerry are to "report" or "not report" income while the possible moves by the client are to pay in "cash" or "check". What is/are the Nash equilibrium of this game? Does the government collect any tax revenue at this equilibrium? Explain with payoff matrix. b. The government now introduces a Value Added Tax (VAT) to be added onto the amount paid by the client when repair services are received. Jerry suggests the following to his clients: "If you pay me in cash, we will not increase the bill by the amount of the VAT. This will result in a payoff to you of 5. If you pay me by check, we must add the VAT to the amount of the bill." Show how the introduction of the VAT changes the payoffs in the game matrix of part (a). What

is/are the new Nash equilibrium of this game? Does the government's tax revenue go up when the VAT is introduced? Explain with payoff matrix.