📚 Learning Guide
Elasticity of Demand and Taxation
hard

In the context of taxation, how does the elasticity of demand affect the distribution of the tax burden between consumers and producers when a tax is imposed on a good with inelastic demand?

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Choose the Best Answer

A

Consumers bear a larger share of the tax burden than producers.

B

Producers bear a larger share of the tax burden than consumers.

C

The tax burden is shared equally between consumers and producers.

D

The tax burden is non-existent if the demand is inelastic.

Understanding the Answer

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Answer

When a tax is imposed on a good that has inelastic demand, it means that consumers will continue to buy almost the same amount of that good even if the price rises due to the tax. Since consumers are not very sensitive to price changes for inelastic goods, they end up bearing a larger part of the tax burden. For example, if a tax is added to a necessary item like medicine, consumers will still buy it because they need it, even if the price goes up. On the other hand, producers may not be able to pass on the entire tax to consumers, meaning they absorb some of the cost, but the consumers will feel the price increase more. This results in a situation where the tax burden is mostly felt by consumers rather than producers.

Detailed Explanation

When demand is inelastic, consumers really need the product. Other options are incorrect because This idea suggests that producers would pay more of the tax; This option implies that both sides share the tax equally.

Key Concepts

Tax burden
Elastic vs. inelastic demand
Shifts in demand.
Topic

Elasticity of Demand and Taxation

Difficulty

hard level question

Cognitive Level

understand

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