Question

2. Assume the price of cigarettes is s5.00 per pack, and the equilibrium quantity of cigarettes is 3 million packs per day with no tax on cigarettes. Starting from this initial situation, which of the following scenarios would result the largest deadweight loss?

a. The price elasticity of demand for cigarettes is 0.1; the price elasticity of supply cigarettes is 0.4; and the cigarettes tax amounts to $1.00 per pack. The price elasticity of demand for cigarettes 0.1: he price elasticity of supply
b. for cigarettes is 1.0; and the cigarettes tax amounts to $1.00 per pack.
c. The price elasticity of demand for cigarettes is 0.5; the price elasticity of supply for cigarettes is 0.4; and the tax amounts to S1.50 per pack.
d. The price elasticity of demand for cigarettes is 0.5; the price elasticity of supply for cigarettes is 1.0: and the cigarette tax amounts to s1.50 per pack

Answer 1

The largest deadweight loss occurs in scenario (d) because both the demand and supply are elastic (0.5 and 1.0, respectively), and the tax amount is $1.50, leading to a significant impact on the quantity of cigarettes demanded and supplied.

Step-by-step explanation:

The question involves determining which scenario would result in the largest deadweight loss when a tax is imposed on cigarettes. To assess this, we need to consider the price elasticity of demand and the price elasticity of supply for cigarettes, as well as the amount of the tax implemented per pack.

Deadweight loss is largest when either demand or supply is highly elastic, meaning that there is a significant change in quantity demanded or supplied in response to a price change. Given the four scenarios:

• (a) Inelastic demand (0.1) and relatively inelastic supply (0.4) with a $1.00 tax
• (b) Unit elastic supply (1.0) and inelastic demand (0.1) with a $1.00 tax
• (c) Somewhat elastic demand (0.5) and relatively inelastic supply with a $1.50 tax
• (d) Somewhat elastic demand and supply, both at (0.5) and (1.0) respectively, with a $1.50 tax

Scenario (d) will likely have the largest deadweight loss because the demand is somewhat elastic, and the supply is perfectly elastic. A high tax rate coupled with a high elasticity on both sides will cause a significant reduction in quantity demanded and supplied, leading to the largest deadweight loss.