operating. There may be increasing, constant or decreasing returns
to
the scale, or alternative decreasing, constant or increasing cost
conditions.
Decreasing Cost Condition:
In the case of increasing returns
to the scale or decreasing
cost condition, the supply curve has download slope and elasticity
of supply (es) is negative. Assuming a fairly elastic demand, the
whole incidence of a tax will fall upon buyers but the price will also
rise by an amount higher than the
amount of tax since each
successive unit is also produced with less cost (as marginal and
average cost decrease due to increasing returns with expansion of
output).
Figure 15.10
In the above diagram, the
supply curve S is sloping
downloads. D is the demand curve. PM is the original price. When
a tax is imposed, the new supply curve becomes S
1
. As such, the
price rises to P
1
M. It can be seen that P
1
Q
1
rise is greater than the
tax PT. Evidently, TQ amount goes to the seller as his profit.
Hence, under condition of decreasing cost the seller cannot only
shift the entire
tax burden upon the buyer, but can raise the price
greater than the tax amount and make a profit too.
Constant Cost Condition:
If there is a constant return to scale,
the firm operates in
constant cost condition so that the supply curve would be a
horizontal straight line. In such cases,
with a given fairly elastic
demand situation the price will go up by the fill amount of tax.
Hence, the whole incidence will fall upon the buyers.
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