Reference no: EM13392169

The government pays attention to elasticity of demand when it selects goods and services on which to levy excise taxes (taxes levied on the production of a product or on the quantity fo the produc purchased). If a $1 tax is levied n a product and 10,000 units are sold, tax revenue will be $10,000 (= $1 X 10,000 units sold).If the government raises the tax to $1.50, but the higher prices that results reduces sales (quantity demanded) to 4000 because demand is elastic, tax revenue will decline to $6000 (= $1.50 X 4000 units sold). So a higher tax on a product that has an elastic demand will b ring in less tax revenue.

In contrast, if demand is inelastic, the tax increase from $1 to $1.50 will boost tax revenue. For example, if sales fall from 10,000 to 9000, tax revenue will rise from $10,000 to $13,500 (= $1.50 X 9000 units). Little wonder that legislatures tend to seek out products such as liquor, gasoline, cigarettes, and phone services when levyingand raising taxes. Those taxes yield high tax revenues.

Question: Under what circumstance might a reduction of an excise tax actually produce more tax revenue?