Question

Suppose a tax is imposed on the sellers of cigarettes. Due to the tax, consumers buy fewer cigarettes and producers sell fewer cigarettes resulting in a

a. loss of total surplus called a deadweight loss.
b. loss of consumer surplus and a gain in producer surplus called tax revenue.
c. gain in tax revenue called a deadweight loss.
d. loss of producer surplus and a gain in consumer surplus called tax revenue.

Answer 1

The imposition of a tax on cigarette sellers causes a deadweight loss, which is a reduction in the total surplus and represents an inefficient market outcome.

Step-by-step explanation:

When a tax is imposed on the sellers of cigarettes, it can lead to a reduction in the quantities bought and sold, causing a loss of total surplus known as deadweight loss. The correct answer to the student’s question is a. loss of total surplus called a deadweight loss.

This is because, as the tax discourages production and consumption, the market moves away from the efficient equilibrium quantity. The imposition of the tax creates a wedge between the price consumers pay and the price producers receive, which reduces both consumer and producer surplus and leads to transactions that no longer occur, as illustrated by the areas labeled U + W in the referenced figure. Additionally, although tax revenue is generated for the government, it does not offset the total loss in surplus, thus creating a deadweight loss. Market inefficiency arises from the divergence between the buyers' willingness to pay and the sellers' willingness to sell, which is exacerbated by the tax.