1 How does the elasticity of demand influence the incidence of a tax, the tax revenue and the deadweight loss? A tax drives a wedge between the price buyers pay and the price sellers receive and results in inefficient underproduction.

The price buyers pay is also the buyers’

willingness to pay or marginal social benefit. The price sellers receive is also the sellers’ minimum supply price, which equals marginal social cost.

Figure 6.10 shows the inefficiency of a tax on MP3 players. The demand curve, D, shows marginal social benefit, and the supply curve, S, shows marginal social cost. With no tax on MP3 players, the market produces the efficient quantity (5,000 MP3 players a week).

With a tax, the sellers’ minimum supply-price rises by the amount of the tax, and the supply curve shifts to S + tax. This supply curve does not show marginal social cost. The tax component isn’t a social cost of production.

It is a transfer of resources to the government