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Tuesday, September 22, 2015

Sales Taxes: Do Consumers Pay Them?

The popular belief with many mainstream economists, is the notion that a sales tax can be pushed forward to the consumers. In this analysis, I will show who actually pays the tax.

Consider the following example:
$100 price for shoes
$6 sales tax
$106 Total price paid by the customer.

In this example, most economists would state the customer "paid" the tax because the price paid was $106. However, this analysis is not complete. 

The business owner actually paid $6 to the taxing authority. Also, the final price($106) is the equilibrium price, as this is the agreed price between customer and business. The business owner earns fewer dollars, thanks to the sales tax. In short, the business owner "eats" the tax. 

Continuing on this line of reasoning, since the business owner receives fewer dollars due to the sales tax, this also reduced his profits. It should be noted that profit is simply the return on capital invested, net the natural rate of interest. Yes, the sales tax also alters the natural rate of interest, or the time preference of consumption by the business owner. Since the business owner has fewer profits to purchase more economic inputs, this alters his ability to buy things in the present, thus slowly usurping his operation.

Conclusion

The sales tax is not passed forward to the consumer. It is paid for by the business owner, and it impacts the nautural rate of interest. If it could be simply passed forward, consumers would just pay it! Of course, this is not true, as consumers have a limit on what they can spend. Sales Tax increases hurt the business owner's ability to re-invest into the factors of production: e.g. Land, labor and capital.

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