Question

1. The government imposes an excise tax on office rental space. Before the tax, the equilibrium price of office rental space was $3,500. After the tax is imposed consumers pay $3,600 on office rental space, $3,200 of which producers receive.

[1] a) Calculate the excise tax on office rental space.
[1] b) What is the incidence of the tax to the consumer?
[1] c) What is the incidence of the tax to the producer?
[2] d) Illustrate your answer on a diagram using the concept of elasticity to explain what must be true for this scenario to arise.

Answer 1

***Please rate***

Ans) When government imposes tax, it does not really matter upon whom the tax is imposed. Burden of tax is shared by both buyers and sellers. Now who will bear greater burden of tax depends upon the elasticity of demand and supply. Accordingly, less elastic side of the market bears greater burden of tax.

1) Unit tax = price paid by buyers after tax - price received by sellers after tax

Unit tax = $3,600 - $3,200 = $400

2) Burden of tax on buyers = after tax price - market price

Burden on buyers = $3,600 - $3,500 = $100

3) Burden of tax on sellers = market price - after tax price

Burden on sellers = $3,500 - $3,200 = $300

4) We see that sellers bear greater burden of tax. Therefore, supply is less elastic than demand.

In the above graph, you can see that supply curve is much steeper than demand curve and hence supply is less elastic.