Question

Recreational marijuana was legalized in the state of Washington in July of 2014 creating a new source of revenue for the government. July 1, 2015, the state government raised excise taxes paid by marijuana retailers on final sales leading to the following effects on prices and quantity sold:

Effects on prices and quantity of marijuana sold in Washington, June and July 2015

Date	Quantity Sold (average grams per day)	Price (per gram)
June 2015 (pre tax change)	310.0	13.18
July 2015	307.0	13.48

The above example is adapted from a recent study into the effects of an increase in taxes on the marijuana market in Washington (Hansen, Miller, & Weber, 2017). The authors can estimate the price elasticity of demand from these data points because the sudden tax change created a ceteris paribus situation, where all other supply and demand conditions were held fixed, similar to the way our models assume in the textbook.

In that spirit, interpret the excise tax increases as an increase in input costs for marijuana dispensaries holding all other supply and demand characteristics fixed.

1. What happened to supply and the supply curve after the tax?
2. What happened to demand and the demand curve after the tax?
3. What can you say about the equilibrium quantity supplied and demanded?
4. Comparing June 2015 to July 2015, using the arc formula for price elasticity of demand: What is the price elasticity of demand? If the business didn’t have to pay the sales tax to the government, what affect would the price increase have had on their revenue?

Effects on prices and quantity of marijuana sold in Washington, June and August 2015

Date	Quantity Sold (average grams per day)	Price (per gram)
June 2015 (pre tax change)	310.0	13.18
August 2015	303.1	13.48

5. Comparing June 2015 to August 2015, using the arc formula for price elasticity of demand: What is the price elasticity of demand? If the business didn’t have to pay the sales tax to the government, what affect would the price increase have had on their revenue?
6. How are the elasticities in question 4 & 5 different? What are the economic reasons driving this difference?
7. All else equal, what would you expect to happen to the price elasticity of demand if there were an additional increase in taxes. Why?

8. Choose a product or company of interest to you. Imagine your boss asks you to calculate a numerical value for the price elasticity of demand. Explain at least three different confounding factors that might make your task difficult. How might you get around those issues?

Answer 1

When govt imposes excise tax ,the cost of production ,increases.Now the seller has two options --- to maintain same price by reducing profit margin OR to increase price by maintaining same profit and shifting the burden of tac on consumer.

In the given problem, the seller has increased the prices ,but by doing this , the demand has fallen.

* There will be no effect on supply and supply curve because the seller has shifted the excise tax burden on buyer.He does not need to change the supply

The demand curve will certainly change ,because as per the law of demand quantity demanded decreases with the increase in prices.

now ,equilibrium quantity and demand will be attained where demand curve intersects supply curve.We can clearly show it with the help of diagram.Both before and after excise tax equilibriums are shown

Arc elasticity of demand = The revenue of the business will increase if the firms donot pay sales tax collected from customers to the govt as they have already shifted the tax burden on custimer by increasing prices.

Now,we will calculate arc elasticity of demand by comparing june and august----

As we have calculated elasticity of demand in both cases ,we observe that ED in second case is comparatively high though in both cases ut is less than one.

But the economic reason for this change in elasticity may be due to the sensitivity of buyers for price changes in august month.people are more sensitive to rise in price as compared to that of in july month.

If there is an additional increase in taxes ,there may be the chances that customer becomes more sensitive to change in price and elastitity of demand may become elastic.