Tax Incidence Assignment pdf

Md. Jasim Uddin
Roll No. 02
Tax incidence based on the shape of demand and supply curve
Tax incidence is an economic term for understanding the idea of a tax burden between buyers
and sellers. Tax incidence is related to the price elasticity of supply and demand. When supply is
more elastic than demand, the tax burden falls on the buyers. If demand is more elastic than
supply, producers will bear the cost of the tax. So, tax incidence depends on the shape of supply
and demand curve. The shape of supply and demand curve will determine who will bear tax.
The very motive of this assignment is to find out all possible outcomes of tax incidence based on
the shape of demand and supply curve. Now I will try to note down what happens when-
1. Supply and demand have the same elasticity
2. Supply is more elastic than demand
3. Demand is more elastic than supply
4. Supply is perfectly elastic
5. Demand is perfectly inelastic
6. Demand is perfectly elastic
7. Supply is perfectly inelastic
Supply and demand have the same elasticity
Figure 1
Here, the original demand and supply curve are DD' and SS' with an equilibrium price at C and
quantity at M. After imposing tax supply curve shits upward by the amount of tax to S1 and S1'
creating a new equilibrium price at E and quantity at M'. This lowers the quantity (M to M')
consumed by the consumer and raises the price (C to E) paid by consumers. Assume that the tax
on each producer is (FE) per quantity of good. The supply curve shifts up by that amount of tax
(t), and the price rises. Although the tax was nominally imposed on producers, consumers are

forced to pay a part of the increased cost, through higher prices. But the price rises by less than
FE, to CE. Producers cannot shift the entire cost of the tax to consumers because as the price
rises, the quantity demanded falls. That’s why the consumers pay more than the producers, but
not all of the tax.
Supply is more elastic than demand
Figure 2
Before imposing tax, the demand (DD') and supply (SS') curve are at intersects with an
equilibrium point (P) where equilibrium price is at C and equilibrium quantity is at M. After
imposing tax supply curve shits leftward by the amount of tax (t) to S1 and S1' creating a new
equilibrium price at E and quantity at M'. Here, P'B is the incidence on consumers and BA is
incidence on producers. As we know, when the elasticity of supply increases more than the
elasticity of demand, the incidence on consumers will be more than that of producers. As a
result, consumers have to bear the burden of taxes by paying high price. It can be seen in figure 2
that the amount consumer pay (P'B) is greater than the amount producer pays (BA).
Demand is more elastic than supply
Figure 3
since this case is about more elastic demand than supply, this is the totally different case from
figure 2. Before imposing tax, the demand (DD') and supply (SS') curve are at intersects with an
equilibrium point (P) where equilibrium price is at C and equilibrium quantity is at M. After
imposing tax supply curve shits leftward by the amount of tax (t) to S1 and S1' creating a new