A Country Which Does Not Tax Cigarettes Is Considering the Introduction

question 74

Essay

A country which does not tax cigarettes is considering the introduction of a $0.40 per pack tax. The economic advisors to the country estimate the supply and demand curves for cigarettes as:
Q_D = 140,000 25,000P Q_S = 20,000 + 75,000P,
where Q = daily sales in packs of cigarettes, and P = price per pack. The country has hired you to provide the following information regarding the cigarette market and the proposed tax.
a. What are the equilibrium values in the current environment with no tax?
b. What price and quantity would prevail after the imposition of the tax? What portion of the tax would be borne by buyers and sellers respectively?
c. Calculate the deadweight loss from the tax. Could the tax be justified despite the deadweight loss? What tax revenue will be generated?

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Definitions:

Expiration Date

In finance, it refers to the date on which a financial instrument (e.g., options, futures) ceases to be valid and the right to exercise it no longer exists.

Exercised

In finance, most commonly refers to the act of utilizing one's right to buy or sell an underlying financial instrument, such as stocks, as specified in a contract.

Put Option

A financial contract giving the option buyer the right, but not the obligation, to sell a specified amount of an underlying asset at a set price within a specified time frame.

At the Money

A term used in options trading to describe a situation where the market price of the underlying asset is equal to the strike price of the option.