📚 Learning Guide
Elasticity and Tax Incidence
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In a market with perfectly inelastic demand, how does the tax burden change between consumers and producers?

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Learning Path
Learning Path

Question & Answer
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Choose the Best Answer

A

Consumers bear the entire tax burden

B

Producers bear the entire tax burden

C

The burden is shared equally between consumers and producers

D

The tax burden is irrelevant in this scenario

Understanding the Answer

Let's break down why this is correct

Answer

In a market with perfectly inelastic demand, consumers will bear the entire tax burden because they will buy the same amount of the product regardless of its price. This means that even if the price increases due to the tax, consumers will still need to purchase the same quantity since they cannot do without the good. For example, if a tax is added to life-saving medicine, people will continue to buy it even if the price goes up, so they end up paying the full amount of the tax. Producers, on the other hand, do not lose any sales from the tax because the demand does not change; they can pass the entire tax cost onto consumers. Therefore, in such a market, the tax does not affect the quantity sold but instead increases the price consumers pay.

Detailed Explanation

When demand is perfectly inelastic, consumers will buy the same amount no matter the price. Other options are incorrect because This option suggests that producers pay all the tax; This choice implies that both sides share the tax equally.

Key Concepts

Elasticity of demand
Tax incidence
Market efficiency
Topic

Elasticity and Tax Incidence

Difficulty

medium level question

Cognitive Level

understand

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