Question

You know that if a tax is imposed on a particular product, the burden of the tax is shared by producers and consumers. You also know that the demand for automobiles is characterized by a stock adjustment process. Suppose a special 20-percent sales tax is suddenly imposed on automobiles. Will the share of the tax paid by consumers rise, fall, or stay the same over time? Explain briefly. Repeat for a 50-cents-per-gallon gasoline tax.

Short answer

• The share of tax paid by consumers will rise over time.

• The tax share of consumers will increase.

Step-by-step solution

Step 1. Impact on the tax paid by consumers after the imposition of 20 percent sales tax

The automobile companies adjust to the change in demand by adjusting the stock supply. It means that these companies sell the stock to consumers in the market. Since stocks are finished products accumulated at a place for sale, it is complex for the companies to adjust their supplied quantity to a sudden tax imposition by the government. These companies will adjust the tax by increasing the price and adding a part of the tax on consumers’ bills.

Hence, a 20 percent sales tax by the government on automobiles will cause an increase in the share of tax paid by consumers.

Step 2. Impact of 50-cents-per-gasoline tax paid on consumers

The gasoline tax will increase the price of the gasoline-per-gallon in the market. This price increase will decrease the quantity demanded by consumers. Also, the actual price received by producers will be lower than the price it receives from consumers. Hence, the burden of the tax will fall on both the consumers and the producers. It will add to the tax paid by consumers because some part of this new tax will add to it.

Therefore, a 50-cents-per-gasoline tax would increase the tax share of consumers.