Commodity Taxes

• commodity taxes: taxes on goods

  • ex: taxes on cigarettes, fuel, alcohol

• truths about commodity taxation:

  1. who pays the tax doesn’t depend on who writes the check to the government

  2. who pays the tax doesn’t depend on the relative elasticities of demand and supply

  3. commodity taxation raises revenue and creates deadweight loss (reduces the gains from trade)

Who Ultimately Pays the Tax Doesn’t Depend On Who Writes the Check

• ex:

  • the government wants to place a tax on apples

    • they can do it in two ways:

      1. can tax apple sellers $1 for every basket supplied

      2. can tax apple buyers $1 for every basket bought

• the tax has the same benefit on buyers either way

  • who pays a tax is determined by the laws of supply and demand

• consider the effect of a $1 tax on sellers

  • as far as sellers are concerned, a tax is the same as an increase in cost

  • ex: if with no tax, sellers require a minimum of $1 per basket to sell 250 baskets of apples, then with a $1 tax, they will require $2 per basket to sell the same quantity

    • a $1 tax shifts the supply curve up at every quantity by 1

• the tax = price paid by buyers - price received by sellers

• what happens if instead of taxing sellers, the government taxes buyers?

  • ex: before the tax, buyers were willing to pay up to $4 per basket but they must pay a tax of $1 to the government.

    • the most buyers will be willing to pay now is $3 because they valued the apples at $4, and now there is a $1 tax

  • tax of $1 on buyers shifts the demand curve down at every quantity by $1