In and demanded at the price P*. After the

In the last
few years, obesity has become a problem in many countries. Therefore, Ireland wants
to introduce a “sugar tax”, which would lead to an increase of 10 cents in every
can of soft drinks, to discourage the consumption of soft-drinks. Low-income
households would suffer the most from this tax, even a slight increase in the
price of sugary drinks will exhaust their budget.

Soft drink
cans are normal goods, as income rises the quantity demanded will also rise,
and the demand curve will shift to the right.                                                                                                                               Furthermore,
the demand for soft drink cans, which is the quantity of a good or service that
consumers are willing and able to buy at each and every price in a given time
period, is relatively price inelastic, so the value of PED is less than one and
greater than zero A change in the price will lead to a proportionately smaller
change in the quantity demanded, because there are no close substitutes for
sugary drinks, and consumers wouldn’t necessarily switch from drinking soft
drinks to drinking water just because of the tax. The formula for the price
elasticity of demand (PED) is the following:

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PED=

The sugar tax
is an indirect tax, as it is imposed upon the selling price of a product, it
raises the firm’s costs and shifts the supply curve of this product vertically
upwards by the amount of the tax. This type of tax is considered a specific
tax, because it is a fixed amount of tax imposed upon a product.

The diagram
above shows that the demand of soft drink cans is price inelastic. In the
beginning the market is in equilibrium, with Q* being supplied and demanded at
the price P*. After the tax of 10 cents per unit is imposed, the supply curve
will shift vertically upwards from S to S + tax. The producers of the product
want to raise the price to P2 to pass the whole cost of the tax on
to the consumers. However, at this price there would be a situation of excess supply,
so the price has to fall until a new equilibrium is reached at P1Q1.

In this case, the producers can pass on much of the burden to the consumers,
because as the demand for the product is inelastic, few consumers would stop

a tax on sugary drinks also involves the existence of negative externality of
consumption. A negative externality occurs when the production or the
consumption of a good has a harmful effect upon a third party.

The overconsumption
of sugary beverages can cause health problems, which result in higher external
costs being imposed on the country’s health service.                                                                                                                                              Because
of the free market, consumers will maximise their private benefit and consume
at a level where MSC=MPB. The marginal social costs (MSC) are the private costs
plus the external costs to third parties from producing one additional unit,
and the marginal private benefits (MPB) are the extra benefits to consumers
from consuming one additional unit. The consumers will ignore this negative
externality, and they will over-consume sugary drinks by consuming Q1
at the price P1. By imposing the sugar tax, the MSC curve would
shift upwards to MSC + tax. Also, since MSC is greater than MSB (the private
benefits to consumers plus the external benefits to third parties from consuming
one additional unit), there is a welfare loss to:

The
effectiveness of the policy cannot really be evaluated yet, but a similar
policy has been introduced in Mexico in 2014, which turned out to be a very
successful measure to raise revenues. The sugar tax of 10 cents caused the
consumption of soft drinks to fall, but sales began to rise again later.

A rise of 10
cents might not stop a certain group in society to consume these drinks, and
they would not necessarily be more educated about their diet. Long-term
problems such as obesity are difficult to solve, but there are also a few
alternatives to discourage sugar consumption. Food and drinks that are high in
sugar should be negatively advertised, because especially children are likely