Question

The following graph shows the daily market for wine. Suppose the government institutes a tax of $46.40 per bottle. This places a wedge between the price buyers pay and the price sellers receive. 

Fill in the following table with the quantity sold, the price buyers pay, and the price sellers receive before and after the tax. 

Using the data you entered in the previous table, calculate the tax burden that falls on buyers and on sellers, respectively, and calculate the price elasticity of demand and supply over the relevant ranges using the midpoint method. Enter your results in the following table. 

The burden of the tax falls more heavily on the _______  elastic side of the market.

Answer 1

Answer:

Q	Price buyer pays($)	price seller receives($)
Before tax	250	100	100
After tax	200	140	90

	Tax burden($)	Elasticity
Buyers	40 (i.e. 140 - 100)	0.667
Sellers	10 (i.e. 100 - 90)	2.11

Price elasticity of demand = (200 - 250) / (140 - 100) * (140 + 100) / (200 + 250)

                                      = (-50 / 40) * (240 / 450)

                                      = -1.25 * 0.5333

                                      = -0.667 (the absolute value is 0.667)

Price elasticity of supply = (200 - 250) / (90 - 100) * (100 + 90) / (200 + 250)

                                      = (-50 /-10) * (190 / 450)

                                      = 5 * 0.4222

                                      = 2.11

The burden of the tax falls more heavily on the less elastic side of the market i.e here on the buyers because elasticity of demand is less elastic.