Question

Among the tax proposals regularly considered by Congress is an additional tax on distilled liquors. The tax would not apply to beer. The price elasticity of supply of liquor is 4​, and the price elasticity of demand is negative −0.3. The​ cross-elasticity of demand for beer with respect to the price of liquor is 0.1. If the new tax is​ imposed, who will bear the greater burdenlong dash—liquor suppliers or liquor​ consumers?

Liquor consumers pay (blank)percent and liquor suppliers pay (blank)percent of the tax.

Answer 1

We have

• price elasticity of supply of liquor = 4​
• price elasticity of demand =−0.3
• cross-elasticity of demand for beer with respect to the price of liquor = 0.1.

When the new tax on distilled liquors is​ imposed, the price that buyers pay increases and the price that sellers receive decreases.

The share of tax borne by consumers is = price elasticity of supply of liquor/(price elasticity of supply of liquor

+ price elasticity of demand)

= 4*100/4.3

= 92.02 percent and

The share of tax borne by sellers is = price elasticity of demand of liquor/(price elasticity of supply of liquor

+ price elasticity of demand)

= 0.3*100/4.3

= 6.98 percent

Liquor​ consumers bear a greater burden.

Liquor consumers pay 92.02 percent and liquor suppliers pay 6.98 percent of the tax.