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    Question

    If the government imposes an excise duty on the

    production of a commodity, and the demand for that commodity is perfectly inelastic, the burden of the tax will fall:
    A Entirely on the producer Correct Answer Incorrect Answer
    B Mostly on the producer Correct Answer Incorrect Answer
    C Mostly on the consumer Correct Answer Incorrect Answer
    D Entirely on the consumer Correct Answer Incorrect Answer
    E Equally on producer and consumer Correct Answer Incorrect Answer

    Solution

    Tax incidence depends on the price elasticity of demand and supply. Perfectly inelastic demand means consumers will buy the same quantity no matter the price (e.g., life-saving drugs). When a tax is imposed, it increases the cost for producers, who try to pass it on by raising the price. Since demand is perfectly inelastic, consumers bear the full price increase and do not reduce their quantity purchased. Graphically, the tax wedge raises the consumer price by the full amount of the tax, while the price received by the producer remains unchanged from the pre-tax level. Thus, the entire burden (incidence) is on the consumer.

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