Hidden Taxes: Why Salience Matters

Standard economics assumes people fully account for all taxes. But people often respond more to taxes they notice than to those that are hidden. This is called tax salience.

The supermarket experiment

In a study published in 2009, economists Raj Chetty, Adam Looney and Kory Kroft tested this in a US supermarket. In the US, sales taxes are usually added at the checkout, not shown on shelf price tags.

They displayed tax-inclusive prices on shelf tags for some products. Sales of those products fell by about 8 percent, even though the actual price was unchanged. People had been underreacting to taxes they didn’t see.

Why it matters

• Hidden taxes cause less behavioural response, so they may create less deadweight loss.
• But they may also lead people to underestimate the cost of government, sometimes called fiscal illusion.
• Visible taxes may be politically unpopular even if efficient.

Examples

• GST in India is included in printed MRP, so consumers don’t see it separately at the shelf.
• Petrol taxes are part of the pump price, and many drivers don’t know how much is tax.
• TDS deducted automatically may feel less painful than paying a lump sum.

Policy implications

• Governments may prefer less salient taxes for revenue, but transparency supports accountability.
• For corrective taxes, like on sugar, making the tax visible may increase behaviour change.