Tax Incidence Unit Four, Lesson Five CookEconomics
Tax Incidence • Usually when there is a tax placed on the production of a good, people assume the tax will be passed onto the consumer. • Generally, people think that producers will try to increase the price of the good to make their loyal consumers pay for this increase in cost.
Tax Incidence • This is only partially correct. • This tax is sometimes passed onto the consumer, but often times, producers find themselves stuck with increased costs due to taxes without the ability to raise prices on its products.
Tax Incidence • Tax Incidence—who really pays for the tax—the consumer or the producer • Who really pays for the taxes added onto the production process? This is tax incidence. • We need to look at the supply and demand curve to really understand.
Tax Incidence • The tax was $2, but the price only went up by $1. • The price is what the consumer is paying, so the consumer had to pay for $1 of the $2 tax. • Who paid the other $1? • It was absorbed by the producer and they had to pay the tax.
Tax Incidence • What determines if the consumer or producer pays for the majority of the tax?
Tax Incidence • The demand curve’s elasticity is the biggest determinant of who pays the tax. • It’s easier to pass the tax along to a consumer who will buy your product regardless of price increases, which is an inelastic demand curve.