Analysis of Biofuel Benefits - Essay Example

? MICROECONOMICS 200 ASSIGNMENT SEMESTER Part A i) The bio-fuels have emerged as a prominent field in the industry of energy and work is underprogress to discover more and more sources of raw materials. In 2007 bio-fuels replaced 1-2% of liquid fuels, and reduced prices by 2-4%. This saved consumers globally up to $60 billion. Many bio-fuels use food crops such as corn as inputs to the extraction and production of bio-fuels (Vidal n.d.). There has been a considerable rise in the demand for food crops such as corn. Such is because previously, almost all of the corn was consumed for food purposes but now the demand for bio-fuel has added to this demand resulting in an increase in higher overall demand for corn. The graph shown on the left shows the above mentioned change in demand of corn. Previously, the demand for corn stood at D1 because it was almost solely used for food consumption. However, the demand for bio-fuel has added to this demand and an addition of D2 has resulted in an overall demand of D1+D2 for corn. Along with showing the total demand for corn, the graph also shows the rise in price of the product which is corn in this case. The previous demand of D1 had a lower price but due to the increased demand, an upward pressure on price has forced the price to rise to PC*. In a market economy, if the increased demand is not addressed by added production and hence increased supply, then the prices rise because the market forces come into play and determine the market prices which are at a higher point (AmosWEB n.d.). The graph here shows that the supply has been unchanged due to which the increased demand has resulted in a rise in the prices of corn. ii) The price of a product usually tends to go up if the increase in demand is not met by an increase in the supply in the same ratio. However, when the demand rises and the prices start to go up, then it tempts others to invest in improving the production methods by introducing new technology or new producers enter into the market. When this happens, the supply of the industry rises and the supply curve of the industry shifts outwards which results in the fall in prices (AmosWEB, Supply and Demand Increase n.d.). The supply of product that is under consideration cannot be increased simply because it is an agricultural product and therefore numerous limitations such as the availability of agricultural land suitable for the growth of crops. In this case when the product is an agricultural product, then the options left to increase the yield of crops is to improve the agricultural and conversion technologies. During harvesting, the conversion process usually results in wastage of product. Therefore if there is an improvement in the conversion technology, then there will be less wastage and increased supply. Similarly, if the seed quality can be improved, then it will result in an improved yield. Both of these steps will lead to a rise in the supply of corn and as a result of an outward shift in the supply curve, the price will fall. Here in the graph on the right, the supply curve has shifted outwards as a result of increase in supply. In our context, the increased supply is the improved yield of corn. The increase in corn has resulted in the readjustment of the equilibrium point and the price at this point has gone down. Therefore, an increased demand can be handled by a simultaneous increase in supply to keep the price under control. iii) After raising the concerns that the earth is facing the possibility of environment and resource depletion, there were calls of innovating and moving towards environment friendly energy solutions. These calls were answered by the introduction of bio-fuels which are partly renewable and emit less dangerous gases. Due to this, many have shifted their consumption to the bio-fuels and it has emerged as a dominant and growing force in the oil industry throughout the world. (Analytica n.d.) The bio-fuels have added to the competition in the oil industry and manufacturer companies now face a greater challenge with the presence of more challenges. With constant innovation expected in the extraction and production technologies of bio-fuels, the costs of them are widely expected to fall in the foreseeable future. With this addition of competition, the consumers have an increased range of options to choose from whichever is suitable and cheaper for them. Therefore, when there is more competition, the producers will have to reduce the prices of already existing products to keep them attractive and recommended option for the customers. Thus when the competition arises in an industry, it puts the pressure on the competitors to lower the prices. (Economic Times n.d.) The producers need to lower the prices because they have to maximize the value that the consumers receive and also the price elasticity of demand, or PED, comes into play. The availability of alternatives increases the price elasticity of demand. The PED is the responsiveness of the demand as a result of a change in the price of that particular product (Moffatt n.d.). Therefore, when alternatives increase, then the prices of existing products become more sensitive to price changes and results in a greater change in the demand by a greater value than that of price. As a result, the competitors have to keep the price of bio-fuel into consideration and lower their prices to ensure the value maximization. Part B i) Now the situation is such that crops are being utilized as input for the production and extraction of bio-fuels. This raises the demand for crops such as corn and sugar. Raising production of crops immediately is not an easy task, and it comes across usually after raising the prices of these products because costs tend to rise subsequently. In short the situation is such that as demand for bio-fuel will increase, it will raise the demand and prices of agricultural crops. However as a cheap energy source is available now, the prices of fuel will fall due to greater competition of goods. Changes in the prices of basic commodities have a strong influence on the spending pattern and standard of living of people, especially the low income group. The increase in food prices and fall in the prices of fuel makes it an overall negative impact on the consumption need of lower income bracket because they spend more on food than on fuel. So a rise in the price of a high consumption item and a fall in the price a low consumption item will create an overall negative impact on their budget. A budget line is a graph showing all the combination of a couple of items which can be consumed simultaneously in a limited budget (EconGuru n.d.). As we look at the impact on low income class, we can see the budget lines in the graph on right hand side. The red line shows the previous consumption pattern where 80 units of food could have been consumed given that all the income is spent on food. The green line however, shows the new consumption patterns after the changes in prices of the two products. It can be clearly seen that now only 55 units of food can be purchased under the same circumstance. The price of food has increased by a large margin but the price of fuel has decreased by a lower margin. This creates more problems for the low income class because they do not spend substantial amounts of money on fuel but they do spend a lot on food. Therefore a change in prices of food and fuel upsets the consumption patterns of low income people to a great extent. ii) A high income individual or family spends a relatively small proportion of their income on food, hence the impact they face will be different. The high income group will be at an advantage because only a small proportion of their income will be spent on food, so an increase in the food prices will not affect them substantially. High income earners generally spend a lot on fuel because of their traveling patterns. In case of a decrease in the fuel prices, they will either save money or avail the opportunity to travel more, in each case they benefit. The graph shows the budget line of high income earners where the major part of the income is spent on fuel and a smaller proportion is spent on food, compared to a low income family. Hence a fall in the fuel prices will benefit them more, and the scenario proves to be favorable for them. Part C Food is a necessity in every society, nation and economy, and it is the duty of governments to endure the availability of low cost agricultural output and food to the people. In this case, the high demand of corn for bio-fuels has increased its prices and made it less affordable for the general public. The government needs to introduce policies to ensure the benefit of the economy. If corn is used for bio-fuels, it will put an upward pressure on the price of corn and this needs to be addressed. The government can place a limit or quota on the consumption of corn and agricultural food items for the production of bio-fuels (International Food Policy Research Institute n.d.). This will provide a raw material for a cheap source of energy without disrupting the supply of corn and other agricultural produce for food and make it affordable for the public. It is the government’s duty to allocate more funds for the research and development on the production and extraction of bio-fuels should be promoted (Hsu n.d.). This research and development will help in discovering cheaper and alternate inputs for bio-fuels and therefore it will help to bring down the prices of fuel as well as keep the prices of corn under control since it is no longer used as an input. The production of bio-fuel can be divided over more agricultural output to reduce the pressure on corn and sugar only. Alternative technologies such as hydro-energy run cars should be promoted so that transportation and fuel cost fall and the environment is also protected from toxic fumes. The government should implement the above mentioned policies so that the whole society can benefit from the stable prices of corn as well as fuel thanks to bio-fuels. Works Cited AmosWEB. Demand Increase. http://www.amosweb.com/cgi-bin/awb_nav.pl?s=wpd&c=dsp&k=demand+increase. —. Supply and Demand Increase. http://www.amosweb.com/cgi-bin/awb_nav.pl?s=wpd&c=dsp&k=demand+and+supply+increase. Analytica, Oxford. Biofuel Benefits Go Beyond Environment. http://www.forbes.com/2006/04/07/biofuel-benefit-ethanol-cx_0410oxford.html. EconBlog. Apple In China. http://priyankaseconomicblog.wordpress.com/2010/03/05/apple-in-china/. EconGuru. Budget Line. http://glossary.econguru.com/economic-term/budget+line. Economic Times. New competition policy will bring down food prices. http://articles.economictimes.indiatimes.com/2012-02-06/news/31030615_1_competition-policy-competition-law-foodgrain-prices. Hsu, Jeremy. U.S. Government Invests $78 Million in Algae Biofuels Research. http://www.popsci.com/technology/article/2010-01/us-government-throws-78-million-algae-biofuels-research. International Food Policy Research Institute. Global Response Needed to Rising Food Prices. http://www.ifpri.org/pressrelease/global-response-needed-rising-food-prices?print. Moffatt, Mike. Price Elasticity of Demand. http://economics.about.com/cs/micfrohelp/a/priceelasticity.htm. Vidal, John. US corn production and use for fuel ethanol. http://www.guardian.co.uk/environment/datablog/2010/jan/22/us-corn-production-biofuel-ethanol. Read More