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The article Budget 2016: George Osborne announces sugar tax on soft drinks industry reports
the announcement of the sugar tax in the recent UK budget in an effort to reduce consumption
of sugary drinks and hence cut obesity rates. Sugar,today, considered a demerit good which
means that its consumption is detrimental to society and that the marginal private cost (MPC) of
consuming sugar is greater than the marginal social cost (MSC), creating a negative externality.
This is when the consumption of a good has negative spill -over effects on to an unrelated third
party for which no appropriate compensation is paid. In this scenario the third party is the NHS
(National Health Service) and indirectly all tax payers, who fund the NHS, who have to bear the
cost of obesity (caused by the overconsumption of sugar). Obesity is a major part of the NHS's
expenditure due to diseases such as diabetes and conronary heart disease which are caused
by excess consumption of sugar] These in total cost the NHS over 16 billion annually.1 The
market is producing sugar over the socially optimum level of output, which means that resources
aren't being allocated efficiently resulting in market failure.

Figure 1.1

1 http://www.telegraph.co.uk/news/health/news/11242009/Cost-of-obesity-greater-than-war-violence-and-terrorism.html
In Figure 1.1 The Marginal Private Benefit = The Marginal social Benefit becaue society is not
directly affected by the consumption of sugary drinks. MPC is greater than MSC,because we
are over-consuming sugary drinks by QP - QS where QS is the social optimum quantity and Qp is
the market quantity. Due to this difference between the market allocation and socially efficient
allocation a welfare loss triangle is formed, this is shown in red on the diagram.

In order to reduce the consumption of sugary drinks (shift MPC closer to MSC) government
intervention is required. This can be in numerous forms, from negative advertising or a
restriction on advertising for the product (which is discussed in the article), to a ban on the
product depending on how the detrimental to society the product is. According to the article,
Britain has announced a sumptuary tax on sugar. Sumptuary taxes are a form of ad valorem
taxes (a value added tax) on demerit goods such as cigarettes, alcohol or in this case sugar.
These indirect taxes make the supply curve shift upwards, increasing the price. This decreases
the quantity consumed and shifts MPC closer to MSC. The tax is borne by both the consumers
and producers; the incidence on each of them depends on the elasticity of consumption of that
good.
Figure 1.2.
As shown in figure 1.2, the MPC shifts upwards to MPC + Tax. This reduces the quantity
demanded from QP to QP+Tax. Sugary drinks are considered to be unitarily elastic, because they
are neither inelastic, due to the existence of substitutes like milkshakes, nor are they elastic,
because they are considered addictive. Thus the tax will be borne almost equally by both the
consumer and producer (as seen in the top and bottom areas of the blue rectangle). Due to the
revenues from the tax and the reduction of the quantity of the good consumed, the welfare loss
triangle also reduces in size, from the red triangle labelled to the smaller blue one labelled.

As said in the news article, the estimated government revenue from the 'sugar' tax is 520
million. The government has stated that it will be using this money to promote sports in primary
schools overall reducing Britains obesity rate.

Britain has decided to set two bands of tax which will effectively cut down the consumption of
sugary drinks, however the tax has exempted milk based drink and pure fruit juices which also
contain large quantities of sugar. Due to an increase in price of sugary drinks, substitutes such
as milk based drinks (such as smoothies) and pure fruit juices will increase in demand.

In the dDiagram 3, the demand curve of smoothies shifts to the left (Increase in demand) from
D1 to D2, due to a reduction in the price of sugary drinks(They are considered to be substitutes).
The quantity increases from Q1 to Q2. The equilibrium price moves up along the supply curve
from P1 to P2.

Clearly the sugar tax may not be effective for Britai as it previously seemed however it is a first
step. As said in the article other measures are required to effectively reduce obesity in Britain. A
tax on added sugar on all products will be necessary in the coming years. Price floors may also
be used if the tax is not helping enough. In the end it is in Britains best interests that its peoples
health improve and after ending diseases such as polio or rubella, ending obesity is the next
step.