5. Calculating tax incidence Suppose that the U.S. govemment decides to charge b

Question

5. Calculating tax incidence Suppose that the U.S. govemment decides to charge beer producers a tax. Before the tax, 35 billion cases of beer were sold every year at a price of $4 per case. After the tax, 30 billion cases of beer are sold every year; consumers pay $6 per case, and producers receive $3 per case (after paying the tax). The amount of the tax on a case of beer is per case. Of this amount, the burden that falls on consumers is S per case, and the burden that falls on producers is sper case. True or False: The effect of the tax on the quantity sold would have been larger if the tax had been levied on consumers. O True O False

Explanation / Answer

The Tax incidence is determined on the basis of the price elasticity of demand and supply. If the price elasticity of demand is more than the supply then producers will incur the cost of the tax. If supply is more elastic than demand then the tax burden falls on the buyers.

Incidence of taxation= %change in quantity supplied / %   change in Price ÷ % change in Quantity demanded / % change in price

=14.28/25 ÷ 14.28/50=50/25=2:1

Here the supply is more elastic than demand so the burden falls on the buyers. The basic postulate is that tax burden will be distributed between the buyer and seller depending upon the degree of elasticity of demand and supply of fixed commodity.

The amount of the tax on a case of beer is $3 per case. Of this amount, the burden that falls on consumers is $ 2 per case and the burden that falls on producers is $ 1 per case.

The effect of the tax on the quantity sold would have been larger if the tax had been levied on consumers. (False)

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