when government impose taxes on a commodity how it will effect supply of a commodity?explain with diagram
Answers
Answer:
Explanation:
An excise tax is a tax on a specific commodity. Such a tax may raise the price of the commodity to the consumer and reduce the net price received by the producer. It generally will do both and reduce the amount marketed and purchased. The effects will depend upon the mechanism which determines the market price and that will depend upon the market structure; i.e., the extent of competition in the market.
The impact of a tax or subsidy on a protected monopoly is dealt with elsewhere.
Determination of Market Price in a Competitive Market
The Normal Case
The demand function for a market is the relationship between the price of the commodity and the quantity of it deamanded. Likewise the supply function is the relationship between the price of the commodity and the quantity of it supplied. The demand and supply functions can be represented as curves in a graph, such as is shown below.
Let peq and qeq the price and quantity where the demand and supply curves intersect. Let D(p) be the demand function for the market and S(p) the supply function. If p > peq then the quantity demanded is less than the quantity supplied, D(p) < S(p), and the surplus results in the market price being bid down. On the other hand if p < peq then the quantity demanded is greater than the quantity supplied; D(p) > S(p); the resulting shortage causes the bprice to be bid up.
At peq the quantity demanded is exactly equal to the quantity supplied and there is no tendency for the price to change. It is, in fact, the equilibrium price. The quantity demanded and supplied at that price is the equilibrium output, qeq.
The Impact of a Subsidy
Although the analysis of the impact of a tax is important the analysis of the impact of a subsidy is more interesting. The analysis is essentially the same, a subsidy merely being a negative tax. The effect of a subsidy is to shift the supply curve downward by the amount of the subsidy. Effectively this is an increase in supply. The graph below shows the results of a subsidy on a market.
In the above graph (and following graphs) Ps represents the price paid to consumers after the subsidy is created. Ps' represents the price received by the producers, which is the price paid by consumers plus the subsidy. The impact of the subsidy is to lower prices for consumers but to increase the price received by producers. The benefit of the subsidy is shared by the consumers and producers in a proportion that depends upon the relative slopes of the demand and supply functions.
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Suppose a tax of t is imposed upon the commodity and the tax is collected from the producers. One's first expectation would be that the market price would increase by the amount of the tax, to (peq+t). In this case the producers would still be gettiing peq and thus would supply the same amount qeq. But the quantity demanded at (peq+t) will be less than qeq and thus that could not be an equilibrium situation. This shortage would drive the price down. The new equilibrium would be somewhere between peq and (peq+t).
Algebraically the new equilibrium price for consumers pc is the price such that