Figure 4-9 Elasticity and the Incidence of an Excise Tax
The role of the relative elasticities of supply and demand in determining
the incidence of the excise tax is illustrated in Figure 4-9. In part (i),
demand is inelastic relative to supply; as a result, the fall in quantity is
quite small, whereas the price paid by consumers rises by almost the full
extent of the tax. Because neither the price received by sellers nor the
quantity sold changes very much, sellers bear little of the burden of the
tax. In part (ii), supply is inelastic relative to demand; in this case,
consumers can more easily substitute away from gasoline. There is little
change in the price, and hence they bear little of the burden of the tax,
which falls mostly on suppliers. Notice in Figure 4-9 that the size of the
upward shift in supply is the same in the two cases, indicating the same
tax in both cases.
The distribution of the burden of an excise tax between consumers and
producers depends on the relative elasticities of supply and demand.
both parts of the figure, the initial supply and demand curves are given by
S and D; the initial equilibrium is at with equilibrium price and
quantity A tax of t cents per litre of gasoline is imposed, causing the
E 0 p 0
Q 0.
′