The Impact of Tax Exclusive and Inclusive Prices on Demand∗

Whether the sales tax is included in the price or added on at the cash register ought not affect purchases of the rational consumer. We test this tax-equivalence hypothesis with a number of experimental treatments that differ only in their handling of the tax. Subjects are given a cash budget from which they decide how much to keep and how much to spend on various attractively priced goods. Subjects repeat this allocation task over ten rounds with the selection of goods and their prices varying between rounds. We find that subjects spend significantly more when faced with tax-exclusive prices where the tax is added on at the register compared to tax-inclusive prices. Results from an additional treatment in which the sales tax is deducted at the cash register reveal that neither salience nor an optimism bias can account for our treatment effect. JEL codes: C91, H20, H31.