Would you expect government to tax goods with elastic or ...
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1. Would you expect government to tax goods with elastic or inelastic demand? Explain how the elasticity of the taxed good would affect government revenue. Use at least one example of a good that is taxed to illustrate your point.
2. Apply the concept of deadweight loss to the taxation of consumer and producer surplus.
3. Explain the "free rider" problem. Give an example.
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Solution Summary
1. Would you expect government to tax goods with elastic or inelastic demand? Explain how the elasticity of the taxed good would affect government revenue. Use at least one example of a good that is taxed to illustrate your point.
2. What happens to consumer and producer surplus when a good is taxed? Explain using the concept of deadweight loss.
3. Explain the "free rider" problem. Give an example.
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I would expect the government to tax goods that have an inelastic demand. When the demand for the good is inelastic, there are no comparable substitutes for the good or service that fulfills the demand. If the good is elastic, comparable substitutes can be used. If the government were to tax a good or service that has an elastic demand, a percentage of consumers would likely find substitute products that are comparable. If the government taxes a good that is inelastic, the demand does not change even though the price has increased due to the additional tax. We see this with goods that are already on the market with inelastic demands and have been exposed to various types of government taxes.
Gasoline and cigarettes are two examples of inelastic goods that are heavily taxed by the government. The government taxes were designed to fund the Highway Trust Fund. Although this fund is currently underfunded from the level of revenue that was expected, the federal and state government fuel taxes go into this fund. Another example is when the government raises taxes on cigarettes to fund various projects and to raise revenues. The majority of people that smoke or that drive (or both) cannot find adequate substitutes. People that live close to work may find a bus or walking easier but this will not be possible for the highest percentage of people. Likewise, a small percentage of the people that currently ...
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