Examine the importance of the elasticity of demand in a government decision to impose a specific tax on the buyers of cigarettes
Price Elasticity of Demand is the responsiveness of a change in the quantity demanded of a certain good to a change in its price. The formula for Price Elasticity of Demand is the percentage change in the quantity demanded of a certain good divided by the percentage change in the price of that certain good (Alain Anderton, p.55). A specific tax is a tax that’s amount levied does not change with the value of a good but with the amount or volume of a good purchased (Alain Anderton, p74). Cigarettes are demerit goods which yield negative externalities. Demerit goods are goods that are overprovided by the price mechanism and tend to carry greater costs to individuals than they realise because the dangers of such goods are not full understood or appreciated leading to their overconsumption (Mark Gavin, p.28). Negative externalities are costs that are external to an exchange that are not taken into account by the price mechanism and thus affect people who are not part of a transaction (Mark Gavin, p.29). A government may decide to impose a specific tax on the buyer of cigarettes to reduce the consumption of cigarettes because they are an example of those goods that the government wants to see less consumed of in society due to their harmful and costly impact. The importance of the Price Elasticity of Demand in a government decision to impose a specific tax on the buyers of cigarettes lies in the fact that the elasticity of demand affects where the incidence of the tax falls. Externalities are a cause of market failure as the price mechanism fails to take account of such costs and benefits in the production and consumption of a good or service. An external cost represents the divergence between private costs and social costs therefore, social cost are made up of private costs and external costs. A Government’s decision to impose a tax on...
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