A town council has proposed a tax on disposable takeaway cups. Fig. 1 shows the market before the tax. The tax raises the costs paid by cup suppliers and is...
Question 1 Report
A town council has proposed a tax on disposable takeaway cups. Fig. 1 shows the market before the tax. The tax raises the costs paid by cup suppliers and is expected to reduce supply. A local café firm says that it may charge customers a higher price, while an environmental group expects fewer cups to be used. The council wants to know why the final price paid by consumers may rise by less than the full tax per cup. Demand elasticity is likely to affect how the tax burden is shared.
(a) Describe the shift from S1 to S2. [1]
(b) Explain why the tax causes this shift. [2]
(c) Explain two likely effects of the tax on the market equilibrium. [2]
(d) Explain why demand elasticity affects the extent to which firms can raise price. [3]
Answer Details
(a) Supply decreases, shifting left from S1 to S2. [1]
(b) The tax increases firms' production costs. [2] Firms therefore supply fewer cups at each price.
(c) With demand unchanged, the tax raises equilibrium price and reduces equilibrium quantity. [2]
(d) If demand is elastic, consumers respond strongly to a higher price. [3] Quantity demanded falls substantially, so firms risk losing many sales if they pass on the whole tax. They may absorb more of it instead.
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