Yachts are produced by a perfectly competitive industry in Dystopia. Industry output (Q) is currently 30,000 yachts per year. The government, in an attempt to raise revenue, places a $20,000 tax on each yacht. Demand is highly, but not perfectly, elastic. Refer to Scenario 2. The result of the tax in the long run will be that

A. Q falls from 30,000; P rises by $20,000.

B. Q falls from 30,000; P rises by less than $20,000.

C. Q stays at 30,000; P rises by less than $20,000.

D. Q falls from 30,000; P does not change.

E. Q stays at 30,000; P rises by $20,000.

The correct answer is option B.

Explanation:

A perfectly competitive industry is producing 30,000 yachts per year.

The government imposed a tax of $20,000 on each yacht.

The demand for yachts is highly elastic.

This imposition of tax will create a tax wedge in which the tax burden will be shared between buyers and sellers.

The price paid by the buyers will increase. While the price received by sellers will decrease.

This tax wedge causes the quantity demanded and quantity supplied to fall. As a result, the equilibrium quantity in the market declines.

Since the demand is highly elastic an increase in price will cause the quantity demanded to decrease by more than proportionate.

The price of the product will increase by less than $20,000 as the tax burden will be shared.