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A High, Low, or No Soda Tax?

Jun 19, 2010 • Demand, Supply, and Markets, Government • 199 Views    No Comments

States debating a tax on soda have to decide whether they want to raise revenue or diminish obesity. If a sales tax on soda is not very high, people will continue buying sugary drinks. The result? The state gets more money. On the other hand, if the tax is high enough and people buy fewer sugary drinks, then a major cause of the “obesity epidemic” in the United States will be addressed. 

When will a tax impact sales? A recent study described in the American Journal of Public Health concluded that soda prices need to increase by 35% (45 cents up from the baseline price) for people to diminish soda purchases by 26%. With health care costs soaring and obesity spreading, all a state needs to do is levy a 35% soda tax. Are they? According to a 2009 Kaiser Family Foundation study, the highest soda tax rates, at 7%, are in California, Indiana, and New Jersey.

With state budget crises erupting everywhere, do you expect state lawmakers to opt for health over a revenue stream?

The Economic Lesson

An economist would say the sales tax debate is about the price elasticity of demand. If price changes a lot and the quantity we buy remains the same, as with medication and gasoline, then our demand is inelastic. By contrast, if price swings have an impact on buying, then our response is elastic. With soda, within a certain price range our demand is inelastic. Once we reach the 35% level, though, we switch to an elastic response. 

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