Answer to Question #241801 in Microeconomics for Teera

Question

The federal government decides that Australia should reduce air pollution by reducing its use of
petrol. The government imposes a $0.50 tax for each litre of petrol sold.
a Should this tax be imposed on producers or consumers? Explain carefully using a supplyand-demand diagram.
b If the demand for petrol were more elastic, would this tax be more effective or less effective
in reducing the quantity of petrol consumed? Explain using both words and a diagram.
c Are consumers of petrol helped or hurt by this tax? Why?
d Are workers in the oil industry helped or hurt by this tax? Why

Answer 1

a. It does not matter whether a tax on petrol of $0.50 is levied on buyers or sellers of the good. When a

tax is levied on buyers, the demand curve shifts downward by the size of the tax;

when it is levied on sellers, the supply curve shifts upward by that amount. In either

case, when the tax is enacted, the price paid by buyers rises, and the price received

by sellers falls. In the end, buyers and sellers share the burden of the tax,

regardless of how it is levied.

here in the figure below we show how tax places a wedge between what buyers pay and what sellers get due to the incidence of tax by the government.

however, either of the curve (dd or ss) can be shifted according to the amount of tax levied on either buyer or seller as the latter information isn't clear, here in the graph below we show the key result of tax incidence.

moreover, it can also be inferred from the diagram that it doesn't matter on whom the tax gets imposed as in both scenarios the qty of petrol decreases and fulfills the purpose of fighting pollution.

 

b. when the dd curve is more elastic and the ss curve being the same, as elasticity means that quantity dd will be responding substantially to the changes in price. in this scenario the size of deadweight weight loss increases as both buyer and seller motives are impacted by the change in prices hence because of change in this behavior market shrinks below optimum. so yes, when the dd curve is more elastic it will be better in reducing the qty of petrol as the deadweight loss size increases.

c. consumers of petrol are obviously hurt by this incidence of taxation as they will be bearing the part of the tax burden and would de-incentivize them to use petrol and because of this their consumer surplus will also decrease. however, the reduction in qty of petrol will lead to a reduction in pollution which will be in best interests of the consumers.

d. workers in the oil industry are definitely hurt by the tax incidence as the tax burden lowers the producers surplus because of which the producer profits decreases also due to decrease in qty dd for petrol the production of qty of petrol also has to decrease and hence few workers might also be laid off and wages of the same might also get decrease to keep up with the cost of production.