In everyday activities, whether in leisure or vocation, consumers seem to be reminded about the necessity of paying taxes. Besides leisure and work; some consumers even have had sin taxes burning their pockets due to their misdeeds. Sin products have had taxes as one of the reasons for price elevations and products, such as tobacco products, have had tax levied on them to the extent of exercising the "loyalty" of the consumer's true need of consumption, but all of the effects of taxes seem to be affecting the consumers and not the producers, is that really the case? The concepts of tax incidence can be used to answer this question and other questions, such as who decides how the burden is shared and whether this makes any significant difference, by describing the tax burden and how it is shared between consumers and producers. Applications such as studying the elasticity of demand and supply, which is basically looking at the responsiveness of consumers due to price change, is vital in the study of tax incidence and will be used through out as the sin tax burden on tobacco products is discussed.
Sin taxes are meant to control consumption of tobacco products, amongst other products, at the same time they raise extra revenue for the government (cite article) by raising product prices through a penalty tax causing consumers to reconsider purchasing the product, for various reasons, yet according to the October article companies are paying for their sins in the form of high taxes (Pile, 2008). Which raises the question; on who does the burden really lie or is it shared equally? The answer lies in the theory behind tax incidence and market behavior due to price change. Due to the fact that the consumers are paying for the product, a simple answer might be that manufactures attempt to pass on the burden to the consumers (Mohr & Fourie, 2005). That might be true but to a certain extent but it depends on the price elasticity of the demand and supply of cigarettes (Mohr & Fourie, 2005).
Due to tax incidence we say that the burden of tax levied can be studied through studying market behavior, the case in which the whole tax being paid by the consumers will be considered first. To express the importance of demand and supply elasticity, different cases of elasticity will be used. The following figure employs the idea of all of the sin tax being included on the purchase price of a sin product namely cigarettes.
n the tax incidence where all the tax is paid by the consumer, the demand of the cigarette packs decreases due to price elevation of 1.00 euro (from 3.00 to 4.00 euros), thus shifting the demand curve to the left. The price received by the supplier decreases, due to the fact that demand has decreased and fewer units will be sold, by 1.50 euros (from 3.00 to 2.50)
In the tax incidence where the supplier accounts for all of the sin tax, the willingness to supply of the supplier decreases due extra costs incurred of 1.50 euros thus the price paid by the consumers will end up increasing also to cover those costs and the money received by the supplier is still 0.50 less (from 3.00 to 2.50)
In the case above one can note how the supplier seems to loose 0.50 euros and consumers pays 4.00 euros regardless of whether the supplier or consumer pays the whole tax. In this case a tax incidence can be noted that the tax is not shared equally as the consumer pays 1.00 euro of the tax (from 3.00 euro equilibrium price to 4.00 euro) and the supplier pays 0.50 of the tax (from 3.00 euro equilibrium price to 2.50 euro) and regardless of where the burden lies, the outcome is the same. How it is the outcome is fixed and how it results in this sort of tax incidence? This is all due to how elastic or inelastic the demand and supply is.
The demand elasticity of a product can be used to see how the tax will be shared when the tax is charged on consumers or paid by suppliers, thus it is necessary to explore the concept of price elasticity. Price elasticity of demand is (not done here)
In the case where consumers pay the tax, it would result in the increment of the product's price and the demand elasticity will decide by how much the quantity demanded will fall, for instance, the more elastic the demand is then the more the quantity will fall due to price change and the more the supplier would have to "pay up", how so? Due to the fact that the supplier will supply the quantity demanded, if it where to fall then the supplier would supply less than the potential amount thus loose a certain amount in the process. In the case where the supplier pays the tax, then the supplier is willing to supply less due to the extra cost incurred, the amount the supplier is willing to supply will entirely depend on the elasticity of supply, for instance, if the supply is inelastic then the change in price would not result in a huge fall in quantity supplied meaning the supplier would not loose that much but in a case where the supply is very elastic, it would result in a large fall of quantity the supplier is willing to supply and a large amount would be lost.
In order to decide whether the sin tax of tobacco prices is shared equally between the consumer and producer or not, from what we know, it is necessary to find out the elasticity of tobacco products. The price elasticity of demand in China was -0.15 in 2008 and -0.50 in 2009 (Jian, 2009) but what does this really mean? The price elasticity of any product is the ratio of the percentage of quantity change to percentage of price change of that product and only the absolute value is considered meaning the demand elasticity in China for tobacco products was 0.15 in 2008 and 0.50 in 2009. The price elasticity being less than 1 means the quantity change is less than the price change thus the demand for tobacco products was inelastic.
In the tax incidence where the demand elasticity is perfectly elastic, it is noted that the consumers bears the entire burden. Like the smokers today and tobacco users, no matter how much the price changes they still seem to be addicted. Due to their inelasticity suppliers can charge them extra with the sin tax and they will still demand the same quantity, thus they bare the whole tax. What does that mean about the effectiveness of charging sin tax since it's meant to control tobacco products usage?
Some smokers or tobacco users are considered to be slightly inelastic; these include students, low income consumers and poor smokers or users. From the findings noted above about perfect inelasticity, sin tax poses no difference on those users and the consumers bare the entire tax. On consumers that are relatively inelastic, most of the burden lies on the consumer but, depending on the elasticity of supply, suppliers might bare some of the tax burden since those poor smokers, low income users and non employed students might decide to quit.
From studying the tax incidence and demand elasticity, much can be noted about the consumer behaviour, but what of the supplier behaviour? That's where supply elasticity plays a role. Suppliers supply a certain quantity according to the costs incurred and form that supply elasticity can be studied (Jian, 2009). Supply elasticity only depends on how far the supplier is willing to go. Resources used and choices dictate the supplier's elasticity, thus a economic problem arises every time for the suppliers as there are always limited resources and from that, it is only logic that the supply can only de price elastic. Since supply is elastic, consumer will therefore bear most of the elasticity (Mohr, 2005); note that irrespective of how you look at it, consumers of tobacco products will always bare the sin tax burden.
Is the sin tax burden of tobacco products equally shared between consumers and suppliers? From the studies carried out above, definitely not, unless suppliers can find a way to economically grow and reduce the problem of scarcity, allowing them to share the burden equally, otherwise the consumers will always bare most of the sin tax if not all of it and on the question of the effectiveness of the sin tax, tobacco usage is only controlled to a certain extent as addictive users prove to be loyal to their addiction
Mohr, P, Fourie, L (2005), Economics, 3rd Edition, Van Schaik publishers, Pretoria.
Jian (2005), www.docstoc.com, Japan.
Parkin, M, Powell, M, Mathews, K, Economics, 7th edition, Adisson Wesley publisher.
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