Consider the following statements: 1. Burden of a tax on a commodity is independent of who (buyer or seller) it is explicitly imposed upon 2. Burden of a tax on a commodity depends on the slope of the demand and supply curves Which of the statements given above is/are correct?
- A.1 only
- B.2 only
- C.Both 1 and 2
- D.Neither 1 nor 2
Correct answer
Explanation
The correct answer is C, Both 1 and 2. Who finally bears a tax (its incidence) is decided by the market, through the elasticities of demand and supply, not by the law that says who must pay it.
If a tax per unit is placed on sellers, the supply curve shifts up; if the same tax is placed on buyers, the demand curve shifts down. In both cases the new market price paid by buyers, the price kept by sellers and the quantity sold come out the same, so the split of the burden does not depend on who the tax is formally imposed on. That split depends on the slopes (elasticities) of the curves: the side that is less elastic, that is less able to move away from the market, bears the larger share. For example, when demand for a necessity is very inelastic, most of the tax falls on buyers.
A and B are wrong because each accepts only one of the two correct statements. D is wrong because both statements are standard results of tax-incidence theory.
Exam tip: Tax burden falls more on the less elastic side of the market, whoever is legally charged.
Practice Questions
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