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January 18, 2006

Taxes and prices

There's a common perception that any tax levied on a business will be passed on to consumers in the form of higher prices. But N.C. State University economist Mike Walden says it's not always true.

"It really depends on how people respond to price increases," he says.

"Now if you have a product, for example, where people are going to buy it virtually regardless of price, then, yes, the higher cost faced by the businesses -- and, of course, taxes would be a cost -- that business will be able to pass that on to their customers and they won't necessarily lose much revenue because people will, in essence, buy virtually the same amount that they were buying before.

"Studies show, for example, that for products like cigarettes and alcohol, this is the case," explains Walden, a professor with the College of Agriculture and Life Sciences and an economist with the North Carolina Cooperative Extension Service.

"But there are other products where people are very sensitive to the price -- where if the price goes up they will dramatically reduce their purchases or maybe not purchase at all," he says.

"So in that case a tax paid by the business may not be able to be passed on to the consumers. If the business does try to do it, he or she will lose a lot of business.

"In fact, there was a very good example of this a few years ago when a new tax was placed on luxury boats. And what happened is people just stopped buying luxury boats.

"So it really does depend on the nature of the product in terms of whether taxes can be passed on to the buyer."

Posted by deeshore at January 18, 2006 08:00 AM