Poor diets are causing around 70,000 premature deaths each year(1). That is why doctors from the BMA suggest that sugary drinks should be taxed by 20%, in order to attempt to cut consumption and tackle the obesity crisis. Sugary drinks are considered demerit goods as they can have a negative impact on the consumer; in other words, they have negative externalities of consumption. However, these harmful effects can be unknown or ignored by the consumer.

The market for sugary drinks is an example of market failure. Market failure is a situation in which the allocation of goods and services is not efficient. Since there are negative externalities of consumption with sugary drinks, the MPB is greater than the MSB. This means that the marginal private benefit of consumption is greater than the marginal social benefit of consumption. The difference between the two is due to the negative externalities that occur, such as waste from production of sugary drinks as well as the health risks of consuming them. Producers only consider their private benefits, thus the free market equilibrium will be at (P’, Q’). Soda is over-consumed by Q’ minus Qm units. So, as the marginal social cost(MSC) is greater than the marginal social benefit(MSB), there is a welfare loss(◀).

If indirect tax were to be implemented on sugary drinks, the marginal private cost(MPC) curve will shift upwards. If the tax implemented is equal to the negative externalities of consumption, the welfare loss will be