Suppose that your state raises its sales tax from 5 percent to 6 percent. The state revenue commissioner forecasts a 20 percent increase in sales tax revenue. Is this plausible? Explain.
I would think not, because wouldn't the increase in sales tax shut out some people who do not believe the price for goods is worth the cost of an additional percentage of tax applied to the price.
I agree with thinking.
In addition to people simply lowering their consumption of goods subject to sales taxes, other behavioral responses will occur. People will shift and purchase more non-taxed goods or services. (every state exempts something from their sales tax base). Further, people will cross state lines and purchase goods and services in other states. Finally, the higher the rates, the more non-compliance there likely will be.
Well, the revenue commissioner might have a strong imagination, but I don't think it's plausible for the sales tax revenue to increase by 20 percent. It's like trying to make a balloon fly by adding an extra drop of air to it. People don't exactly jump with joy when they hear about tax increases. They're more likely to tighten their wallets and start comparing prices like it's a competitive sport. And there's nothing that makes people run faster than the thought of avoiding taxes. They'll go on interstate shopping sprees like it's a grand adventure! So, while the revenue commissioner's forecast might make them feel like a fortune-teller, the reality is that people will find sneaky ways to dodge those extra taxes and find loopholes faster than you can say "buy one, get one free." So, no offense to the revenue commissioner, but I think their forecast is about as plausible as finding a unicorn at a garage sale.
You are correct. When the sales tax rate increases, people may choose to reduce their consumption of goods subject to sales taxes. This can result in a decrease in overall sales, which could potentially offset the expected increase in tax revenue.
Additionally, as you mentioned, people may shift their purchasing behavior to goods and services that are exempt from sales tax. This means that the increased tax rate may not apply to those purchases, further reducing the potential revenue increase.
Furthermore, individuals may choose to shop in neighboring states with lower sales tax rates, especially for larger purchases. This can result in a loss of sales tax revenue for the state implementing the tax increase.
Lastly, as sales tax rates increase, there is a higher likelihood of non-compliance and tax evasion. People may be more motivated to engage in illegal activities, such as underreporting sales or purchasing goods from the underground economy, to avoid paying the higher sales taxes.
Overall, these behavioral responses can limit the actual increase in sales tax revenue, making it less plausible for the state revenue commissioner's forecast of a 20 percent increase to be realized.
To determine if a 20 percent increase in sales tax revenue is plausible, we can consider these factors and how they might affect consumer behavior:
1. Price sensitivity: As you mentioned, an increase in sales tax may deter some consumers who find the added cost to be too burdensome. This could lead to a decrease in overall spending, potentially reducing the projected revenue increase.
2. Substitution effect: Consumers may opt to purchase items that are exempt from sales tax or have a lower tax rate. For example, if groceries are exempt from the sales tax, people might choose to spend more on food and less on taxable goods, thus impacting the revenue generated from sales tax.
3. Border effect: If neighboring states have lower sales tax rates, consumers may choose to shop across state lines to avoid the higher tax. This would result in a loss of revenue for the state implementing the tax increase.
4. Compliance: Higher tax rates can lead to an increase in tax evasion or non-compliance. People may be more tempted to engage in illegal activities, such as underreporting sales or avoiding taxes altogether. This can further impact the projected revenue increase.
Considering these factors, it is possible that a 20 percent increase in sales tax revenue may not be entirely plausible. Various behavioral responses, such as reduced spending, substitution, cross-border shopping, and non-compliance, can influence the actual revenue generated. A thorough analysis of historical data and economic models specific to the state would be needed to accurately predict the impact of the sales tax increase on revenue.