Cartel and Its Impact, Supply of Coffee - Case Study Example

Coffee Contents Cartel and its impact 2 Cartels are Illegal 3 Supply of Coffee 4 Severe Frosts 4 Increasing costs of production 5 Changes in price of coffee 6 Dumping of Coffee 7 Benefits of Vietnam producers 8 Reference List 9 Cartel and its impact Cartels are equivalent of groups where producers try to protect their own interests. The main reason of forming the cartel is to constrict the supply in the market to influence the price of a commodity (Veseth, 2014). The main impact of the cartel is that it immediately reduces the market supply of the commodity. The diagram below shows the way in which producers manipulate the market price. Without the formation of cartel the equilibrium level of production was Q0 and the price was P0. After the formation of cartel the producers charge a higher price while the quantity of output falls. This action in turn raises the price of the product in the market. The cartel has the authority to fix the market price for its members and this also eliminates chances of individual price competition among producers. The quantity of output that is likely to be produced in a cartel depends on the strength and stability of the cartel. For instance, if the cartel decides to act as a monopoly then it has absolute authority over all its members. The following graph shows the output and price in case of a cartel arrangement (Dwivedi, 2009). Figure 1: Impact of cartels on output (Source: Hirschey, 2008) The summation of individual marginal cost curves provides the marginal cost curve for the industry as a whole and the intersection of the marginal revenue and cost curves determines the equilibrium level of output and price. Once the industry has been determined then the individual firms ascertains their own level of output by matching their own marginal cost curves to the profit-maximizing level. Cartels are Illegal Cartels have been banned in a number of developed countries like the U.S.A. on account of the negative impacts it has on the consumers (Marshall and Marx, 2012). In many cases it has been observed that the cartel members hide prices, charge unreasonable price and artificially constrict output and all of these reduces the welfare of the consumer. Consumers can also lose confidence in the business as cartels have been largely associated with the negative sentiments. In most of the cases the business enterprises which are not a part of the cartel are often eliminated from the business and this in turn affects the overall effectiveness of the economy as a whole. Formation of cartels has been associated with the reduction of the innovation and economic efficiency. Governments and economists of various countries thinks that cartels are ineffective because unproductive members take refuge to the cartels and are not bothered to improve their performance (Grossman, 2004). It has also been found that cartel members often discourage the entry of new entrants into the market and this in turn restricts the chances of economic growth and job prospects for many. In many cases the cartels have been held responsible for increasing the prices of the inputs for which consumers have to bear higher costs. These factors often discourage governments to foster cartels for which they have been declared as illegal ventures. Supply of Coffee Severe Frosts In case of severe frosts the production of coffee will automatically fall as the coffee beans are adversely affected by frost. The fall in the production of coffee will cause the supply curve to shift as shown in the figure by S2. Figure 2: Impacts of frosts on coffee production (Source: Author’s Creation) With other external factors like demand of coffee held at a constant level, the price of coffee in the world market will increase. The new equilibrium price is given by P2. This is determined from the point where the new supply curve intersects the demand curve. At this point the quantity demanded is Q2. The consumers who prefer coffee will continue to pay the new high price. The extent of increase in price will however depend on the elasticity of demand. If consumers are unwilling to consume any other drinks other than coffee then the price rise will be steeper. Increasing costs of production The impact of increasing costs of production also entails that the supply of coffee would fall. There may be a number of factors like the rising costs of labour, rise in transportation costs and rise in price of fertilizers which can increase the cost of production. Under such a circumstance the producers are particularly at a loss because they will be unable to maintain the same level of profit by continuing to produce at the same level (Veseth, 2014). As a result, they reduce the level of production for which the supply curve moves leftwards. Figure 3: Impacts of rise in production costs (Source: Author’s Creation) Again the same supply curve diagram can be used to explain the situation of the suppliers. Suppliers cannot make profits by selling at the existing price on account of an increase in the cost of production so they pass on the higher price to the customers. Changes in price of coffee In both of the above situations there will be an increase in the price of the coffee as the suppliers reduce the supply. However, in an opposite situation there will be an opposite impact on the price of coffee. For instance, if the production situations are favourable or the harvests are huge then the supply of coffee will rise automatically and the prices will fall (Veseth, 2014). Similarly if the costs of production fall then the suppliers will tend to produce more and the price of coffee will automatically fall. Dumping of Coffee Dumping of coffee in the world market would create a situation where there is an excessive supply of coffee but the demand of coffee does not increase. In such a situation firms begin to sell their products at a lower price in the world economy whereas the price in the domestic market is comparatively higher (Veseth, 2014). Figure 4: Effects of Dumping (Source: Author’s Creation) The above graph shows the impact of dumping of coffee in the world market. As suppliers begin to sell products in the world market at a lesser price so the world supply curve is depicted by Sworld. The domestic suppliers do not change their supply but the price is determined by the world supply curve and they receive less as can be seen from the above graph. Benefits of Vietnam producers From the present scenario in the coffee industry it can be inferred that the frost in the Vietnamese market will actually benefit producers of coffee in all over the world. This is because Vietnam is one of the main reasons which had inflated coffee production and resulted in a reduction in price of for coffee producers. A severe frost in Vietnam would indicate that the level of coffee production would fall. Given Brazil’s current supply situation, a fall in the Vietnamese supply would actually have the potential to raise the prices given the demand situation. This in turn indicates that Vietnamese producers cannot dump their existing stocks in the world market. The price of coffee has been growing in the past and an overall fall in supply will raise the price even more reinforcing the effect. Coffee producers all over the world will have the opportunity to increase the price received by them as the effect of dumping is likely to fall. The fall in production of Vietnamese produce will not allow the producers to sell their product at a price smaller than the world price. It can be inferred that the oversupply of coffee has mainly resulted from the role of Vietnam. It has particularly affected the producers in Brazil who have had to reduce their production exponentially (Veseth, 2014). The rise in coffee prices has also been unable to benefit the producers as the cost of production went up simultaneously. However, the situation can drastically improve if Vietnam scales down production. Reference List Dwivedi, D.N., 2009. Essentials of business economics. New Delhi: Vikas Publishing House. Grossman, P.Z., 2004. How cartels endure and how they fail: studies of industrial collusion. London: Edward Elgar Publishing. Hirschey, M., 2008. Managerial economics. Connecticut: Cengage Learning. Marshall, R.C. and Marx, L.M., 2012. The economics of collusion: Cartels and bidding rings. Massachusetts: MIT Press. Veseth, M., 2014. Introductory microeconomics. New York: Academic Press. Read More