Economics – Price elasticity, income elasticity and cross elasticity of demand | e-Consult

The price elasticity of demand for cigarettes is -0.5, which means that for every 1% increase in the price of cigarettes, the quantity demanded will decrease by 0.5%.

Impact on Quantity Consumed: Since the absolute value of the PED is less than 1 (| -0.5 | = 0.5), the demand for cigarettes is inelastic. This indicates that consumers are not very responsive to changes in the price of cigarettes. Therefore, a tax on cigarettes will likely lead to a relatively small decrease in the quantity of cigarettes consumed.

Impact on Government Tax Revenue: The government's tax revenue will depend on the size of the tax and the magnitude of the change in quantity demanded. Because demand is inelastic, the quantity of cigarettes consumed will not fall significantly. Therefore, even with a tax, the government will still be able to generate a substantial amount of tax revenue. The tax revenue will be calculated as the tax per cigarette multiplied by the quantity of cigarettes sold.

In summary: A tax on cigarettes with an inelastic demand will result in a small decrease in the quantity of cigarettes consumed but a relatively high level of tax revenue for the government.