Homer is a doughnut aficionado. Whether it be Krispy Kreme originals, Dunkin’ Donuts sprinkled, Shirley’s cream filled, or Gourdough’s fried chicken doughnut, Homer loves them all the same. Suppose Springfield, Homer’s hometown, decides to impose an excise (sales) tax on consumers of $0.50 on each doughnut purchased. 4.5 4.0 Demand 3.5 3.0 On the graph, please shift the appropriate curve to show the new equilibrium point after the tax gets put into effect. What is the revenue generated from this excise tax? Round to the nearest whole number. Price per doughnut ($) 2.5 2.0 Supply 1.5 1.0 0.5 excise tax revenue: $ 0.0 0 100 200 300 400 500 600 700 800 900 1,000 Quantity of doughnuts
The Correct Answer and Explanation is:
To determine the excise tax’s effect and calculate the tax revenue, we follow these steps:
1. Identify the Market Equilibrium (Pre-Tax)
On the supply and demand graph:
- The equilibrium point is where the demand curve and supply curve intersect.
- From the graph, this point appears to be at:
- Price = $2.50
- Quantity = 600 doughnuts
2. Effect of the Excise Tax
An excise tax on consumers shifts the demand curve downward by the amount of the tax (because each unit is now effectively $0.50 more expensive to them).
- The new demand curve shifts vertically down by $0.50.
- The new equilibrium is found where the new demand curve intersects the original supply curve.
- From the graph, the new equilibrium point after tax appears to be:
- Price sellers receive = $2.25
- Quantity = 500 doughnuts
Note: Consumers pay $2.25 + $0.50 = $2.75 total per doughnut.
3. Calculate Excise Tax Revenue
Tax revenue = Tax per unit × Quantity sold after tax
- Tax per doughnut = $0.50
- Quantity sold after tax = 500
Revenue = 0.50 × 500 = $250
✅ Final Answer:
Excise tax revenue:
When Springfield imposes a $0.50 excise tax on doughnuts, it changes the incentives in the doughnut market. Because the tax is levied on consumers, the effective price of each doughnut increases from the consumer’s perspective. To model this on a graph, we shift the demand curve down by the amount of the tax. This is because at every price point, consumers are now willing to buy fewer doughnuts due to the additional $0.50 burden.
The new market equilibrium occurs where the new (lower) demand curve intersects the original supply curve. At this point, sellers receive less than before (because the quantity demanded at each price has dropped), and the total quantity of doughnuts bought and sold declines. In this case, the quantity falls from 600 to 500.
To compute the revenue generated from the tax, we multiply the number of doughnuts sold post-tax by the tax per doughnut. Here, 500 doughnuts are sold, and each generates $0.50 in tax revenue, yielding a total of $250.
This example illustrates the classic economic outcome of excise taxes: a decrease in market activity (fewer doughnuts sold) and a redistribution of surplus (some goes to the government as revenue, while consumers and producers lose some welfare). The tax burden is shared between consumers (paying more) and producers (selling less), demonstrating tax incidence theory.
