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The Burden of Excise Tax on Alcohol Products

1. The government has decided to impose excise tax on the alcohol products & the main objective is to reduce the consumption of alcohol. The burden of the imposition of excise duty on alcohol products must be a bore by either producer or consumer. The tax burden depends on the elasticity of the demand & the supply curve. Though taxes reduce both the demand & the supply of any product, in case of the alcohol products, imposition of tax leads to the decrease in the demand & supply of alcohol products (Bowles, 2009). The burden of tax is generally divided within sellers & buyers. The elasticity of demand & at the same time the elasticity of supply both determines the share of the burden of tax. In extreme cases the elasticity of demand & supply becomes perfect elastic & perfect inelastic. Except these cases the tax is generally shared between sellers & buyers.

In case of excise duty the burden is generally more on sellers, since buyers have different options to purchase the product. They can purchase those products on which the tax is comparatively less. If the demand is elastic, the maximum tax burden is bore by the seller (Frank, 2006). In case of the inelastic demand curve the tax burden is more on buyers.

 

                                                                    [Source: Frank, 2006]

 If the elasticity of demand is less in comparison to the elasticity of supply, the burden of tax would be more on the buyer & on the other hand if the burden of tax is more on supplies if the elasticity of demand is more in comparison to the elasticity of supply.

Another strategy that may be adopted by the government is the price control. In this strategy the government set a price of the alcohol, below which the companies cannot charge price to customers. In this case the supply of alcohol products becomes more in comparison to the demand of products. This leads to excess supply of alcohol products in the market.

 

                                                                        [Source: Doran & Shakeshaft, 2008]

In this case the customers have to pay the social cost of the alcohol. It may also discourage people to purchase alcohol products. On the other hand the imposition of minimum price on alcohol products affects the living standard of low income group people (Doran & Shakeshaft, 2008). They have to pay more on alcohol products & they end up with very less amount for expenditure on other products. Another impact may be that people may shift to low price alcohols to satisfy their demands.

  1. a) In case of monopolistic competition there are many firms in the market & they sell mainly differentiated products. Hence huge competition exists in the market, though the competition is less than the competitive market. Since differentiated products are sold in the market, sellers don’t have control over the market. The pricing strategy of one organisation doesn’t affect the price- output relation of other firms present in the market. In the monopolistic competition the Chamberlin’s model is very useful to identify the impact of the pricing strategy of one firm on other firms.

According to the Chamberlin’s Group Equilibrium theory, in monopolistic competition, firms sell differentiated products & as a result those firms which sell similar products form a group. Hence there are two demand functions in the market (Varian & Repcheck, 2010). One is the group demand curve & the other one is the individual firm’s demand curve. The individual demand curve is more elastic in comparison to the group demand curve. The initial equilibrium point id determined as the point where the group demand curve & the individual demand curve intersects each other. In this position firms earn super normal profit. This attracts new firms in the market. If one firm reduces the price of the product in order to attract more customers, other firms will also adopt the same strategy. As a result the individual demand curve shifts along the group demand curve until it becomes tangent to the long run average cost curve. At this point the super normal profit is zero (Bowles, 2009). This whole scenario has been explained with the help of the following diagram:

The Impact of Price Controls on Alcohol Consumption

 

                                                                                             [Source: Self]

In the present case, the minimum point of the long run average cost curve for a table manufacturing firm is$200. Hence, in the long run the individual curve will shift down along the demand curve & will be tangent to the long run average curve. Since the demand curve is downward sloping, hence the demand curve will be tangent to the left side of the long run average cost curve. Hence the price of the table in the long run will be more than $200.

  1. b) In case of an oligopoly market the number of firms are small & these firms have proper control over the market. There are different features of the oligopoly market & these are as follows:
  • Since few firms play major role in the market & as a result they have to take decisions on the basis of decisions taken by other firms. Decisions taken by one firm is dependent on other firms. Hence, independence is one of the important features of the oligopolistic market.
  • Another important feature of the oligopolistic market is the group behaviour.
  • In case of oligopolistic market, huge competition exists (Baumol & Blinder, 2015). Since the numbers of sellers are small, the strategy adopted by one firm affect other firms.
  • In the short run there is no barrier to entry & exit in the market but in the long run companies present in the market gains economies of scale & creates barrier to entry for new firms.
  • Price rigidity exists in the market, since reduction in the price by one firm insists other firms to adopt the same strategy.

One of the oligopolistic markets in Australia is the retail market. Woolworth & Cole both has captured nearly 70% market share. These two companies have to take decisions considering the impact of the decision on the other firm. Other than that the market power of these two companies & their economies of scale create a barrier for other new firms to enter in to the market. Since, only few large companies dominate the market, huge competition must exist among them.

Similarly another industry is the telecommunication industry. In this industry also few firms are playing dominating role in the market (Frank, 2006). One of the dominant firms is the Telstra. Telstra & other few firms have created a barrier for new firms to enter into the market. Thought competition is increasing in the industry, still Telstra is the key player in the market. Hence, it is also an oligopoly market.

Another oligopoly industry in the Australian market is the Gas industry. There are only three companies in this industry; those have captured more than 95 percent market in the industry. Interdependence on the decision making process in this industry is one of the basic criteria of the oligopoly market (Ngo & Okura, 2007). Another important feature in this respect is the price rigidity.  

  1. c) There are different features of the monopolistically competitive market & these features make this market distinct from other market. These are as follows:
  • Product differentiation is one of the most important features of monopolistically competitive market. Large number of companies produces similar products.
  • Since huge competition exists in the market, free entry & exit is another feature of the market
  • Another important feature is the large number of sellers & buyers
  • Individual demand curve is more elastic & group demand curve is comparatively less elastic.
  • The demand curve is more elastic in comparison to the monopoly market
  • Imperfect knowledge of the market condition.

One of the examples of the coffee industry in Australia is the coffee industry. In this industry there are large numbers of coffee producers & slight change in the product makes the product different from others (Nicholson & Snyder, 2014). Product differentiation is one of the characteristics of the coffee market. Therefore the market power is very less. There is no barrier in the entry & exit of firms in the market.  

Another industry is hotel industry. There are large varieties of hotels in the market of Australia. There is huge competition within the hotel industry. Since there are large number of hotels & large number of sellers this also fulfils the criteria of the monopolistically competitive market. There is no barrier to entry & exit in the business.

Another industry is the consumer service industry. There exists huge competition in this industry & different customer service providers provide different services to customers (Frank, 2009). Hence differentiation in service exists here & customers have very little knowledge about the market.  

  1. d) One of the special cases of the oligopoly market is the duopoly market. If two firms have formed a natural duopoly, there must be few conditions that must be fulfilled & these are as follows:
  • These two firms must have captured a large market share
  • There must be interdependence in the decision making process
  • There must be barrier in the entry & exit of the new firm
  • Their business ideology must be similar.

 

                                                                                        [Source: Frank, 2009]

There are different market situations within the duopoly model & one of the most important situations is the Cournot market equilibrium. This has been described in the above diagram.

References

Baumol, W. J., & Blinder, A. S. (2015). Microeconomics: Principles and policy. Cengage Learning.

Bowles, S. (2009). Microeconomics: behavior, institutions, and evolution. Princeton University Press.

Doran, C. M., & Shakeshaft, A. P. (2008). Using taxes to curb drinking in Australia. The Lancet, 372(9640), 701-702.

Frank, R. H. (2006). Microeconomics and behavior. New York: McGraw-Hill/Irwin.

Frank, R. H. (2009). Microeconomics and behavior. London: McGraw-Hill.

Ngo, D. D., & Okura, M. (2007). Coopetition in a mixed oligopoly market.

Nicholson, W., & Snyder, C. (2014). Intermediate microeconomics and its application. Nelson Education.

Varian, H. R., & Repcheck, J. (2010). Intermediate microeconomics: a modern approach (Vol. 6). New York: WW Norton & Company.

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