Principles of Microeconomics, 7th Edition

Published by South-Western College
ISBN 10: 128516590X
ISBN 13: 978-1-28516-590-5

Chapter 6 - Part II - Supply, Demand, and Government Policies - Questions for Review: 7

Answer

The distribution of a tax burden is determined by how elastic a good is to the consumers and producers. The tax burden will fall more heavily on the side of the market that is less elastic.

Work Step by Step

In general, elasticity measures how the quantity demanded or quantity supplied of a good changes as a result of a change in price of that good. In other words, elasticity measures the willingness of buyers or sellers to leave the market when conditions become unfavorable. If a good has an elastic demand – possibly meaning that there are other similar goods – buyers will purchase less of the good if its price rises and substitute towards similar goods. However, if the good has an inelastic demand, the quantity demanded of the good will not decrease much if the price increases. Even if a tax is imposed on the good, which will raise the price of the good, buyers will still purchase almost as much of the product. The same holds for how elasticity affects producers. Therefore, the tax burden is distributed based on how elastic the good is to consumers and producers. The group that has the most inelastic demand will be most unlikely to leave the market if a tax is imposed, so they will bear the majority of the burden.
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