Question

Pretend you are an economic adviser for New York City. There are 2 alternative proposals to consider:

1. a per-unit tax on food items in restaurants

2. a per-unit tax on food items in grocery stores

Assume that both proposals will use the same per-unit tax amount.

Based on a supply and demand analysis and elasticity in particular, what would you expect to be the pros and cons of each of the two proposals? In what ways would you expect the two taxes to have different effects? Respond in ~300 words.

Answer 1

1. Per unit tax on food items in restaurants: People go to restaurant as a luxury statement, and thus the per unit tax on food item would only affect their luxury and doesn't pinch them much and their basic necessities.. At the same time, each item is of higher price but number of items purchased are less, so the revenue generation would be high in terms of per unit price but low in terms of number of items.

The demand of restaurant is quite elastic, so as the price increases, there would be a greater reduction in the number of people visiting the restaurant thus the overall revenue generation would be less for the government..

2. Per unit tax on food items in a grocery store : As the items in a grocery store are the basic necessity items, so increase in their price would affect the basic demand of essential items of the common man and their day to day budget.. This won't be good for the common man..

The number of items purchased in a grocery store are more but each item is of low price, so the revenue would be high in terms of units and tax would increase the revenue earned in terms of price.

As the demand of grocery items is quite inelastic, so the price increase would not affect the demand and thus the overall revenue would be more..