Upper Slobbovians smoke 10 million cigarettes per year, so do Lower Slobbovians. To discourage smoking, each country imposes an excise tax of 50 cents per pack. As a result, the price of cigarettes rises by 35 cents in upper Slobbovia, but only by 15 cents in lower Slobbovia even though the supply curves are identical in both countries. True or False: The Upper Slobbovian excise tax discourages smoking more effectively than the lower Slobbovian excise tax.
Draw an initial supply curve in both Upper and Lower Slobbovania. Now raise the supply curve in both graphs upward (vertical at all points) by exactly 50 cents. In the first graph, draw a demand curve that shows a 35 cents rise, in the second a demand curve that gives you a 15 cents rise. What must the slopes of the demand curve be in order to achieve this result? What happens to quantity in each market?
To answer this question, let's break it down step by step:
1. Initial supply curves: Draw a vertical line that represents the initial supply curve in both Upper Slobbovia and Lower Slobbovia. Since the supply curves are identical in both countries, they would look the same.
2. Raise the supply curve: In both graphs, shift the supply curve upward by exactly 50 cents. This means that the new supply curves are now above the initial ones by 50 cents at every quantity.
3. Demand curve for 35 cents rise: In the first graph (representing Upper Slobbovia), draw a demand curve that shows a 35 cents rise in response to the increase in the price of cigarettes. To achieve a 35 cents rise in price, the demand curve must have a steeper slope compared to the initial demand curve.
4. Demand curve for 15 cents rise: In the second graph (representing Lower Slobbovia), draw a demand curve that shows a 15 cents rise in response to the increase in the price of cigarettes. To achieve a 15 cents rise in price, the demand curve must have a less steep slope compared to the initial demand curve.
Now, let's analyze the effects:
- Upper Slobbovia: The higher excise tax of 50 cents per pack leads to a larger increase in the price of cigarettes compared to Lower Slobbovia. With a 35 cents rise in price, the demand for cigarettes in Upper Slobbovia will decrease more significantly, resulting in a larger reduction in quantity demanded.
- Lower Slobbovia: The lower excise tax of 50 cents per pack leads to a smaller increase in the price of cigarettes compared to Upper Slobbovia. With a 15 cents rise in price, the demand for cigarettes in Lower Slobbovia will decrease to a lesser extent, resulting in a smaller reduction in quantity demanded.
Therefore, the statement "The Upper Slobbovian excise tax discourages smoking more effectively than the lower Slobbovian excise tax" is true. The steeper demand curve in Upper Slobbovia (35 cents rise) indicates a greater responsiveness to price changes compared to the less steep demand curve in Lower Slobbovia (15 cents rise).