Suppose the government places a sales tax on firms in a monopolistically competitive industry Explain what happens to the equilibrium price and the number of the firms in the industry?

Answer 1

The supply curve shifts upward because of the tax, so the equilibrium price increases, but the price the sellers receive decreases. Because the sellers' price decreases, the firms are making a loss, so some firms drop out of the market.

IF THE GOVERRNMENT PLACES A SALES TAX ON FIRMS IN A
MONOPOLISTICALLY COMPETITIVE INDUSTRY,
THE REACTION WOULD VARY
-with the nature of product
-with the nature of market factors
-with the high value/ low value of the products
-RATE OF THE THE SALES TAX.
etc.
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IF THE RATE OF THE SALES TAX WAS 2/3%,
IT WILL HAVE NO IMPACT .
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IF THE RATE OF THE SALES TAX WAS WAS 10/12 %,
IT WILL CREATE AN IMPACT ON THE MARKET.

-the sensitive customers will move over to the cheaper substitutes.

-the reduction in sales volumes will affect the channels/ resellers
as they will shift to other substitutes.

-the volume reduction will affect the productivity of the firms.

-the volume reduction will affect the unit production cost.

HENCE SUCH MARGINAL PLAYERS WILL CLOSE THE PRODUCTION UNIT.

ONLY LARGE VOLUME MANUFACTURERS CAN SUSTAIN
THE SALES AND MANAGE TO STAY IN THE MARKET.