Good X and Good Y both have a perfectly elastic supply curve (i.e., the supply c

Question

Good X and Good Y both have a perfectly elastic supply curve (i.e., the supply curve is represented as a horizontal line). Both Good X and Good Y have the same equilibrium price and quantity, in the absence of a tax. Now a tax is imposed in both markets, at the same rate. The only difference between the two markets is that the own-price elasticity of demand for Good X is larger than the own-price elasticity of demand for Good Y.

1.The tax on Good X will raise an amount of revenue that is ____________ the revenue raised by the tax on Good Y.

2.The tax on Good X will lead to excess burden that is ____________ the excess burden caused by the tax on Good Y.

a) more than

b) less than

c) the same as

d) an amount that cannot be determined with the information provided

Explanation / Answer

1.The tax on Good X will raise an amount of revenue that is less than the revenue raised by the tax on Good Y.

The own-price elasticity of demand for Good X is larger than the own-price elasticity of demand for Good Y. so fall in demand due to tax will be more in case of good X in comparison to Y ( initially their quantity same), so less of good X will be sold so less tax revenue will be collected from sale of good X in comparison to good Y.

2.The tax on Good X will lead to excess burden that isa) more than the excess burden caused by the tax on Good Y.

The dead-weight loss generates neither revenue for the government nor gains for any other party. It is a burden imposed on buyers and sellers over and above the cost of the revenue transferred to the government. Thus, it is often referred to as the Excess Burden of Taxation. It is composed of losses to both buyers (the lost consumer surplus), and sellers (the lost producer surplus).

Elasticities also influence the size of the dead-weight loss caused by the tax because they determine the total reduction in the quantity of exchange. When either demand or supply is relatively inelastic, fewer trades will be eliminated by imposition of the tax, so the resulting dead-weight loss is smaller.

Here good Y has lower demand elasticity that is why burden of taxes will be lower for good Y in comparison to good X.

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