Excise Taxes, Consumer Demand, Over‐Shifting, and Tax Revenue

Abstract

This paper examines over‐shifting in excise taxes, using the constant elasticity demand function under monopolistic competition. We apply the solution for price from this model to previous studies to obtain estimated price elasticities of demand. We also derive the excise tax, which maximizes tax revenue under this formulation, resulting in a revenue‐maximizing tax‐price ratio based upon the price elasticity. The model is applied to some previous experience regarding excise tax increases for alcoholic beverages and cigarettes. Our study offers structural insights behind empirical research that finds over‐shifting. The model can also be used to help construct excise tax policy.