Discretionary Pricing and Tax Shifting

Abstract

Utilizing the assumption that the demand function is not objectively known, the paper develops a pricing model of firm. The model, which emphasizes the discretionary nature of the firm's position and provides a formal rationale for it, is then used to examine the reactions of the firm to excise and income taxes. One finding is that the firm's response to a tax may depend in substantial degree on certain factors not ordinarily recognized to be important. A related finding is that these factors may be no less influential for the pricing decision following an income tax as for that following an excise tax. The analysis suggests also that reliance on a pricing formula is an expected byproduct of unknown demand and may serve as effectively as available alternatives to facilitate the price-making process.