Major Questions in Microeconomics - Essay Example

DEPARTMENT OF ECONOMICS, MONASH ECF1100: MICROECONOMICS Semester 2, 2008 Group Assignment Due by 4 pm on Monday, October 6, 2008 Instructions to Students 1. Answer both questions below. This is a group assignment. Students should form a group of voluntary choice from their own tutorial group. Each group should have a minimum of 3 students and a maximum of 5 students. The same mark will be given to all members of the group. 2. Each question will be marked as a whole, not subquestion-by-subquestion. Each question is worth 5 marks and the total mark for this assignment is 10. This assignment is worth 10% of the final grade. 3. The assignment must not exceed 1000 words and must be submitted typed, one-sided, and double spaced on white A4 paper. Work submitted for assessment must be accompanied by a completed copy of the Faculty Cover Sheet (available on MUSO Blackboard ‘assignment’ link). Each student must attach their own signed cover sheet to the assignment. No assignment will be accepted or marked if it is not accompanied by a signed Cover Sheet by all students. Your name, I.D. number, the tutorial day/time, and the name of the tutor should be shown on the Cover Sheet. An electronic copy will not be accepted. You should retain a copy of the work submitted. 4. Faculty Style Guide - Work submitted for this assessment must follow the Faculty Style as outlined in the Faculty Q Manual. Copies of this Manual can be obtained at the bookshop or online at: http://www.buseco.monash.edu.au/publications/qmanual/. 5. Applications for extension of time - All applications for an extension of the time allocated to an assessment task must be made in writing to the Unit Leader (see special consideration for within the semester assessment on page 9 of the Unit Outline). Approval, if granted, will be in writing and will be recorded on the Faculty Assignment cover sheet accompanying the assessment task by the responsible lecturer/tutor. . Question 1 (5 marks) This question is related to trade protections/barriers in the sugar industry. Read the following articles (“Readings” Link, MUSO Blackboard) and answer the questions below. “Beet a Retreat” “Living and Dying on History and Artificial Economic Sweeteners” “EU to Reduce Aid to Sugar Industry in Landmark Deal” a) What measures has the European Union used historically to support high prices for sugar and provide benefits to sugar beet farmers? Why has the EU accepted to reduce or remove these measures? b) Choose one of the policies you describe in part (a) to be the focus of the rest of your analysis. Consider the European Union to be one country, and show graphically the demand, supply, and equilibrium in the sugar market. Before any trade is allowed, where would the domestic (European) price for sugar be located with respect to the world price? c) Now suppose that free trade in sugar is allowed with the rest of the world. Would the EU be a net exporter or a net importer of sugar under these circumstances? Explain your answer. d) Now construct a new graph of the market for sugar in the EU that shows, in addition to the equilibrium with free trade, the equilibrium that would be reached under the trade protection policy you chose in part (b). Show clearly the areas of consumer surplus, producer surplus, and government revenue (where relevant) that result from this policy, and compare them to the corresponding areas under free trade. What is the net effect on welfare (total surplus) of this policy? What groups if any would be advocates of this policy within the EU? Ans: A. Brussels favours the European farmers in the process of extracting sugar from beets. EU is accustomed to the practice of purchasing sugar from the farmers at a higher price, which is almost three times of the existing global price. That is the process of providing remunerative price for the farmers who extract sugar from beet. In this way their interest is protected. On the other hand the existing high domestic price of sugar may boost up the importing of sugar from the outer world. That might cause a decline in the sale of domestically produced sugar. To protect the farmers the EU adopts the policy of imposition of high tariff. On the other hand the sugar producers are given subsidy in order to boost up the export of sugar. The subsidy and pricing policies regarding sugar have been argued to be among the trade distorting ones by different countries such as Brazil and Australia. The protest of different members of WTO has compelled it to declare the policies as unfair. That declaration of WTO regarding the trade has made the European Union to bring about changes. B. P S V C A B E D PD L T S PI G H N V J R D O Q In the above figure the horizontal and vertical axes measure the quantity and price of sugar respectively. D is the domestic demand curve and S is the domestic supply curve of the European Union. PD (OD) is the domestic price determined by the demand and supply interaction. But the government provides OC price. At this price the aggregate demand is CA and aggregate supply is BC, which is greater than aggregate demand, and hence at that price the government at remunerative price OC per unit purchases the excess supply AB amount. The global price of sugar is OG. But the government imposes the tariff to the extent KA (GC) per unit. That’s why the import price becomes OC. So though the European Union sets a higher domestic price rate for the farmers, to ensure the stability of domestic production and its sell the tariff is imposed on the foreign product. At this tariff there is no import. C. The effect after trade depends upon the policies adopted by the government. If there is an unrestricted trade and the government does not adopt any policy of tariff or quantitative control we find that the domestic price of sugar is OD which is determined by the domestic demand and supply interaction. Now we find that PI is the global price line and hence OG is the global price of sugar. At that very price the demand for sugar in domestic market is GJ and the domestic supply is GH. Hence the excess demand HJ which the consumers can not get from the domestic market would be met up by importing. Hence European Union becomes an exporter of Sugar. Here we consider that the government is not providing any remunerative price to the farmers. D. Now the government introduces a tariff to the extent GL per unit. The price per unit of sugar becomes OL. The domestic supply rises by HN units and demand falls by VJ units. Hence at tariff GL, TS is the amount imported by the country. TSNV is the amount of Government Revenue. At free trade consumers’ surplus was the area of triangle VJG. Now the area of the triangle VSL depicts it. Before Tariff the area RHG depicted the producer’s surplus but now the area RTL gives it. So there is a gain of producers, which come from the consumers. Consumers bear the tariff revenue also. But the triangles HTN and VSJ are lost from the hands of the consumers but none gets that. Hence those are depicted as deadweight loss or social cost of tariff. The domestic producers of sugar and the protectionists generally advocate this type of policy prescription because the domestic producers are the only beneficiaries of it. Read More