sin taxes

DR A. SOORIAN stated in The StarNewspaper, dated on Tuesday July 28, 2009 that even if taxes are increased, these group of people will still drink and smoke. They will continue to damage their health. The increased prices will impact negatively on their standards of living. They will be less able to feed, clothe and house themselves and resign to a life of misery. “Do the increases reduce the consumption of alcohol and cigarettes? No! People would still smoke and drink to “unwind” or are stressed and are addicted to the practices” he said. He also said that “Raising liquor and cigarette prices will encourage smuggling of these goods”. I agree with the statement, hence the cigarette and alcohol is perfectly inelastic demand.  Besides that, the increase of sin taxes will cause formation of illegal market.

               

      Why we need to pay taxes? This is because of the benefits principle .The principle state that people should pay taxes equal to the benefit they receive from the services provided by government .This arrangement is fair because it means that those who benefits most pay the most taxes. For example, high taxes on alcoholic beverages and tobacco products to pay for public health-care services. The division of the burden of a tax between buyers and sellers depend on the elasticity of demand and supply .In next paragraph, I will explain the elasticity of demand and supply.

              

      Who is the one really to pays these taxes? Tax incidence can answer this question .Tax incidence is the division of the burden of a tax between buyers and sellers When the government impose a tax on a good, the price paid by buyers  might rise by full amount of tax , by a lesser amount or not at all. If the price paid by buyers rises by the full amount of the tax, then the burden of  the tax falls entirely on buyers .This mean the buyers pay the tax. If the price paid by buyers rises by a lesser amount than a tax, then the burden of the tax falls partly on buyers and party on sellers. On the other hand, if the price paid by buyers remain unchanged, this mean the burden of tax is falls entirely on sellers.

                 

      The cigarette and alcohol is perfectly inelastic demand .For example, a pack of cigarette is Rm10 with no tax. If cigarette is taxed at RM 3 per pack, we must add the tax to the minimum price at which tobacco company are willing to sell cigarette. A tax of RM 3 per pack shift the supply curve to move upward, but the quantity bought does not change. Buyers pay the entire tax. This group of consumer still buying cigarette and alcohol although the price of cigarette and alcohol is increase because of the raise of tax. The more inelastic the demand, the larger the amount of tax paid by buyers. What happen if the cigarette and alcohol is perfectly elastic demand? For example, with no tax the price of cigarette is RM 10 per pack .If the cigarette is taxed RM 3 per pack, this will cause the supply curve will shift to the left and the quantity sold decrease .In this situation, the sellers pay the entire tax. In this situation, the tax raise cause consumers decrease their willingness to buy this product and the quantity sold decrease.

          
    

      The cigarette and alcohol is perfectly elastic supply. For example, with no tax, the price of a bottle of beer is RM15. A tax of RM 2 a bottle increases the minimum supply-price to RM 17 a bottle. The supply curve move downward .The tax has increased the price buyers pay by the full amount of the tax which is RM 2 and it has decreased the quantity sold. Buyers pay the entire tax. The more elastic the supply, the larger the amount of the tax paid by buyers.

            

      Assume that the cigarette and alcohol is perfectly inelastic supply .The price of a bottle of beer is RM 15 without tax. With a tax of RM 2, the price remains at RM17 a bottle. The number of bottles bought remains the same, but the price received by sellers deceases to RM 13 a bottle .Although beer is taxed at RM 2 a bottle but the supply curve does not change because the supply still produce same amount of beer .The amount of beer bought by buyers remain the same if the price is RM 15 a bottle, so the price remains at RM 15 a bottle .The sellers pay the entire tax.

Figure on top explain the tax of beer which on buyers. Tax incidence can help us understand the burden of the tax is fall on buyers or sellers. The price and quantity is just an example. With no tax, 400million bottles a year are bought and sold at the price RM15 a bottle. A tax on buyers lowers the amount they are willing to pay sellers , so it decrease the demand and cause the demand curve shift to the left. The equilibrium quantity decrease to 350 million bottles per year .The price paid by buyers increase to RM15.50 a bottle and the price received by sellers falls to RM14.50 a bottle. The tax raises the price paid by buyers by less than the tax and lowers the price received by sellers, so buyers and sellers share the burden of the tax. Let say a tax is fall on sellers and it just likes an increase in cost. To determine the position of the new supply curve, we add the tax to the minimum price that sellers are willing to accept for each quantity sold. This cause equilibrium quantity and supply decrease. 

      In short, taxes will affect the price of alcohol and cigarette as well as the supply and demand. Alcohol and cigarette is harmful to health of public. Besides increase the sin taxes, government should take other action to lower the demand of alcohol and cigarette. So that, the benefit and health of public can be protect.