Question

What a big tax on soft drink can do

A big tax on sugary drinks in Mexico has cut consumption. Sellers passed on the entire tax in higher prices. The largest consumers of sugary drinks are the poor who suffer from diabetes and obesity.

​Source: The New YorkTimes​, October​ 19, 2015

What can we say about the incidence of​ Mexico's tax on sugary drinks and what can we infer about the elasticities of supply and demand for these​ drinks?

Would this tax by a progressive tax or a regressive​ tax?

On the basis of what principle would this tax be​ fair?

Consumers of sugary drinks are paying the entire​ tax, so we can infer that the elasticity of supply is​ _______ or the elasticity of demand is​ _______.

A. unit​ elastic; unit elastic

B. perfectly​ elastic; perfectly inelastic

C. perfectly​ inelastic; perfectly elastic

D. perfectly​ inelastic; perfectly inelastic

E. perfectly​ elastic; perfectly elastic

Answer 1

Consumers of sugary drinks are paying the entire​ tax, so we can infer that the elasticity of supply is​ perfectly elastic or the elasticity of demand is​ perfectly inelastic. The correct answer is: B. perfectly​ elastic; perfectly inelastic.The incidence of tax has the following relationship with elasticities: if both demand and supply are relatively elastic the burden is shared equally between buyers and sellers. If demand is perfectly inelastic then burden is borne by consumers only. If supply is perfectly inelastic then the burden is borne entirely by producers.

The tax would be a regressive tax since the good is mostly consumed by poor and everybody pays the same tax irrespective of income. Thus the tax would be relatively larger share of a poor person's income than of a rich person's income for the same quantity.

The tax would be fair according to benefits principle.