Effect of Tax Depending on Elasticity

A tax shifts the supply curve to the left. However, the impact of a tax depends on the elasticity of demand. If demand is inelastic, a higher tax will cause only a small fall in demand. Most of the tax will be passed onto consumers. When demand is inelastic, governments will see a signficant increase in their tax revenue.

Diagram of Tax on inelastic demand

tax

If demand is elastic, demand will fall more. The tax will be more effective in reducing demand, but less effective in raising revenue for the government

Effect of Tax on Elastic Demand

tax

Price elasticity of demand

Video of Elasticity

(sorry diagrams are not so visible)

4 Responses to Effect of Tax Depending on Elasticity

  1. sarah October 21, 2008 at 5:44 pm #

    Is elasticity of supply have any role to play in this? Like, say, elastic supply will result in larger reduction in quantity and bigger Deadweight loss?

  2. tejvan October 22, 2008 at 8:53 am #

    The best thing to do is draw a diagram. Then change the elasticity of supply.

    When I drew a diagram and made the supply curve more inelastic, the price increase was lower for same amount of tax rise.

  3. James May 5, 2013 at 7:44 pm #

    This helped alot, thank you!

Trackbacks/Pingbacks

  1. Understanding Elasticity | Economics Blog - November 16, 2011

    [...] Effect of Tax depending on elasticity of demand [...]