Reading Passage Question
This passage is an excerpt from Microeconomics Theory and Applications, 9th Edition, by Edgar K. Browning and Mark A. Zupan (Wiley):
In 1980, Washington, D.C., city officials, hard-pressed for tax revenues, levied a 6 percent tax on the sale of gasoline. As a first approximation (and a reasonable one, it turns out), this tax could be expected to increase the price of gasoline by 6 percent. The elasticity of demand is a key factor in the consequences of this action, because the more sharply the sales of gasoline fall, the less tax revenue the city will raise. Presumably, city officials hoped that gasoline sales would be largely unaffected by the higher price. Within a few months, however, the amount of gasoline sold had fallen by 33 percent.1 A 6 percent price increase producing a 33 percent quantity reduction means the price elasticity was about 5.5.
The sharp sales drop meant that tax revenue was not increased. Further indications were that when consumers had fully adjusted to the tax, tax revenues would actually decrease. (There had been a 10 cent per gallon tax before the 6 percent tax was added, so although the 6 percent levy was raising revenue, the gain was largely offset by the loss in revenue from the initial 10 cent tax following the reduction in sales.) This was not a general increase in gasoline prices but a rise only within the D.C. city limits. Gasoline sold in the District of Columbia is a narrowly defined product that has good substitutes — gasoline sold in nearby Virginia and Maryland. Higher gasoline prices in the District of Columbia, when the prices charged in Virginia and Maryland are unchanged, indicate high elasticity in the market.
No economist would be surprised at the results of this tax, but apparently, city officials were. Observed one city councilman: “We think of ourselves here in the District as an island to ourselves. But we’ve got to realize that we’re not. We’ve got to realize that Maryland and Virginia are right out there, and there’s nothing to stop people from crossing over the line.” The 6 percent gasoline tax was repealed five months after it was levied.
“In 1980, Washington, D.C., city officials, hard-pressed for tax revenue”- is a reading comprehension passage with answers for the GMAT. Candidates must have a strong understanding of English GMAT reading comprehension. This GMAT Reading Comprehension section contains four comprehension questions. The GMAT Reading Comprehension questions are intended to assess candidates' abilities to comprehend, analyse, and apply information or concepts. GMAT Reading Comprehension Practice Questions can help candidates actively prepare.
Solutions and Explanation
- The author is primarily concerned with doing which of the following?
(A) Arguing for increased gas taxes
(B) Arguing against increased gas taxes
(C) Ridiculing all local government officials
(D) Advancing a particular ideology
(E) Explaining certain principles of supply and demand
Answer: (E)
Explanation: The final option is the right answer. This is because the author's main objective is to clarify specific supply and demand principles. The rest of the options are all wrong answers as they are too far-fetched or do not describe the right primary concern.
- It can be inferred from the passage that elasticity in the last sentence of the second paragraph refers to
(A) fluctuations in the price of gasoline in Washington, D.C.
(B) fluctuations in the price of gasoline in Virginia and Maryland
(C) changes in the amount of tax collected at 6 percent
(D) changes in the number of vehicles in the region
(E) fluctuations in the demand for gasoline sold in Washington, D.C.
Answer: (E)
Explanation: The passage suggests that the word "elasticity" refers to changes in the demand for gasoline purchased in Washington, D.C. The phrase "in Washington, D.C." appears in the last sentence of the second paragraph. With this inference, the final option is the correct answer. The rest of the options are not consistent and so they are invalid.
- For which of the following reasons does the second paragraph of the passage mention the original gas tax of 10 cents per gallon?
(A) To show that Washington, D.C., residents were already overtaxed
(B) To distinguish between a straight 10 cent per gallon tax and a percent tax
(C) To explain why residents should not be subjected to different kinds of taxes
(D) To contrast the 10 cent tax that was included in the pump price and the 6 percent sales tax that was added after the sale
(E) To show that with a sufficient decrease in gasoline sales, the city would actually lose money despite the higher tax
Answer: (E)
Explanation: To demonstrate that despite the higher tax. The city would actually lose money if gasoline sales were to sufficiently decline. This, according to the second paragraph, is what led to the initial 10 cent per gallon gas tax. With this interpretation, it is clear that the final option is the right answer.
- The passage suggests that a reason the tax increase failed to raise tax revenues in the District of Columbia is that
(A) District of Columbia consumers decreased the amount of fuel they purchased and limited their overall vehicle usage
(B) the amount of gas consumed by District of Columbia residents in their commute to nearby states was sufficiently negligible to justify purchasing fuel outside the city limits
(C) consumers in the District of Columbia were upset that city council members would decrease fuel taxes to increase tax revenues
(D) as a result of the tax increase, residents of Virginia and Maryland discontinued making gas purchases in the District of Columbia
(E) District of Columbia city council members failed to convince legislators in nearby states to increase their fuel taxes
Answer: (B)
Explanation: The second option is the correct answer. If people in D.C. traveled outside the city to buy gas, the overall cost of the trip must have been lower than buying gas inside the city. Otherwise, they would have kept buying fuel in Washington, D.C. Due to this, the tax increase in the District of Columbia failed to increase tax revenues.
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