Chapter 6: Taxes, Price Controls, and Quantity Regulations

The natural interaction of supply and demand determines how much of a good is sold (quantity, or Q) and at what price (P).
Governments can step in and change these market outcomes through laws, regulations, or taxes.
Think of it this way:
- Minimum wage laws: These are government rules that set the lowest amount employers can pay workers, directly affecting workers' earnings.
- Taxes: These affect how much money people have left to spend (disposable income) and change the final price of goods and services we buy.

Taxes can significantly change the choices buyers and sellers make, which then alters how the market works.
Example: The Soda Tax
- Sugary drinks are often linked to health issues like diabetes and heart disease.
- To address this, some places in the USA implement a "soda tax."
- Goal: Make sugary drinks more expensive to reduce how much people buy and consume.
- Effect: This tax increases the price buyers pay and reduces the money sellers actually receive for each drink. The difference between these two prices is the tax amount itself.

2.2.1 A Tax on Sellers

Let's look at the Philadelphia Soda Tax (introduced in 2017):
- The tax was legally placed on the sellers: 1.5 cents per ounce.
- How to calculate it: For a 20-ounce soda, the tax amount is 0.015 \text{ (dollars per ounce)} \times 20 \text{ (ounces)} = \$0.30. So, an extra 30 cents.
- What happens: Stores show you the price including the tax. When you buy it, the store collects the full price but then sends 30 cents of it to the government.
- Key point: The seller doesn't get to keep the entire price you paid; a portion is given to the government as tax.

2.2.2 A Tax on Buyers

What if the government decided to make the buyers legally responsible for the tax instead?
- What happens: Stores would display the price before the tax is added.
- Sellers would keep that entire posted price.
- At checkout: Consumers would pay both the posted price and the additional tax amount.
- Responsibility: Even though buyers are legally responsible for paying the tax, the stores would typically still collect it at checkout and then send it to the government on behalf of the buyers.

Statutory Burden: This refers to who is legally required to send the tax payment directly to the government. It's about the written law.
- Example: In the Philadelphia soda tax, the statutory burden was on the sellers.
Economic Burden: This describes who truly ends up paying the tax in a practical sense, meaning whose income or purchasing power is ultimately reduced by the tax. It's about the actual financial impact.
- Example: Even if sellers are legally obligated to pay the soda tax, they might raise prices, passing some of the cost onto consumers, meaning consumers bear some of the economic burden.
Tax Incidence: This term describes how the overall burden of a tax is distributed between buyers and sellers, or between different groups in the economy. It's about sharing the load.
- Example: Tax incidence for the soda tax would tell us what percentage of the 30 cents tax is effectively paid by buyers (through higher prices) and what percentage is borne by sellers (through lower effective revenue).

Using our soda tax example: The law (statutory burden) says sellers pay the tax.
However, the economic burden might actually be split: sellers might raise the prices of soda, meaning consumers end up paying a part of that tax through higher costs.
This clearly shows that who is legally responsible for the tax isn't always who actually pays it in the end.

Key Insight: Who truly pays a tax (the economic burden/tax incidence) is not determined by who the law says should pay it (the statutory burden).
- Think about it: A store might have a legal obligation to pay sales tax to the government, but if they raise their prices to cover that tax, the customers are ultimately bearing much of the financial impact.
Conclusion: Just reading the tax law isn't enough to understand its real economic impact. You need to look beyond the legal wording.

Elasticity: This is a crucial concept that tells us how much buyers or sellers change their behavior (like buying more/less, or selling more/less) when the price changes. It measures responsiveness.
How it affects tax burden: Elasticity is the main factor determining how the tax burden is shared between buyers and sellers:
- If one side (buyers or sellers) is more inelastic (meaning they are less responsive to price changes and find it harder to adjust), they will end up bearing a larger share of the tax burden. They can't easily "escape" the tax.
- If sellers are more inelastic: They find it harder to reduce their supply or switch production when prices decrease due to tax, so they bear more of the tax.
- If buyers are more inelastic: They find it harder to reduce their consumption or find substitutes when prices increase due to tax, so they bear more of the tax.
Helpful Mnemonic: Elastic = Escape! This means if you are elastic, you have many alternatives and can easily change your behavior to avoid the tax. If you are inelastic, you have fewer options, so it's harder to escape the tax burden.