Problem 30 In a market where the supply cur... [FREE SOLUTION]

Chapter 5: Problem 30

In a market where the supply curve is perfectly inelastic, how does an excise tax affect the price paid by consumers and the quantity bought and sold?

Short Answer

Expert verified

In a market with a perfectly inelastic supply curve, an excise tax increases the price paid by consumers without affecting the quantity bought and sold. The tax burden is passed on to the consumers through higher prices, but the quantity supplied remains constant due to the inelastic nature of the supply curve.

Step by step solution

Understanding perfectly inelastic supply curve and excise tax

A perfectly inelastic supply curve is a vertical line, meaning that the quantity supplied is unchanged regardless of the price level. This situation usually occurs when there is no possibility to increase or decrease the production of the market. An excise tax is a tax levied on the production or sale of some goods and services by the government. This tax is typically placed on a specific product, such as gasoline, and results in an increase in the cost of producing the product.

Determining the price paid by consumers with excise tax

In a market with a perfectly inelastic supply curve, producers cannot change the quantity supplied. When the government imposes an excise tax on a product, the cost of production increases. Producers will try to pass on that extra cost to consumers in the form of higher prices. To determine the effect on the price paid by consumers, we can use the formula: \( Price_{after\ tax} = Price_{before\ tax} + Excise\ Tax \) Let's remember that the increase in price depends on the amount of the excise tax. The higher the tax, the higher the price paid by consumers.

Determining the effect of the tax on the quantity bought and sold

When the price paid by consumers increases due to the excise tax, the demand for the product decreases. However, in a market with a perfectly inelastic supply curve, the quantity supplied remains constant regardless of the price level. In this case, the quantity bought and sold in the market will continue to be the same. This is because the market adjusts the price by passing the tax burden to consumers, but the quantity supplied stays constant due to the inelastic nature of the supply curve. #Conclusion# In a market with a perfectly inelastic supply curve, an excise tax will result in a higher price paid by consumers. This increase in the price paid by consumers leads to a decrease in demand, but the quantity bought and sold in the market remains unchanged since the supply curve is perfectly inelastic.