RVHS H1 ECONS CSQ1

© RVHS 2015 8819/01 [Turn over H1 Prelims/Promos Case Study Suggested Answers ai) Identify the trend in sugar prices from 2011 to 2013. [1] Downward trend. aii) Explain the trend identified in part (i). [2]  The downward trend can be explained by the surplus, generated as a result of production being greater than consumption, in each year. b) Using a diag ram, explain how import tariffs as mentioned in Extract 1 would help the U.S. sugar producers. [3] Import tari ffs refer to a tax on imports. Figure 1 below illustrates the effects of a specific tariff on a particular good e.g. sugar. Suppose D domestic is the U.S. consumers’ demand curve for sugar while S domestic is the U.S. producers’ supply curve of sugar. Assume the world price is initially PW and the world supply curve for U.S. consumers is shown by Sworld. At PW, U.S. producers are only willing to supply Q 1 units of sugar. If a specific tariff is now imposed on imports, this means that S world will now shift upwards to S world + tariff. This al so implies that PW will rise to PW + t. At PW + t, U.S. producers are able to sell a larger quantity at a higher price, which increases the ir total revenue to 0PW+tBQ3 compared to 0PWAQ1 before the tariff is imposed. 0 G A Q4 Q3 Sworld + tariff PW + t Q2 Q1 Sworld PW Ddomestic Sdomestic Quantity Price Figure 1: Effects of Import Tariffs on U.S. sugar market B

c) With reference to Extract 2, explain whether corn syrup producers should be worried about their share of the sweetener market. [6] Thesis: Corn syrup producers should be worried about their share of the sweetener market Sugar and corn syrup are substitutes in consumption, as both of them can be used as sweetener in soda. Since the price of sugar fell, quantity demanded for sugar will increase which leads to a fa ll in the demand for corn syrup. That leads to a fall in equil ibrium quantity for corn syrup, which leads to a fall in their share of the sweetener market. Besides the fall in price of sugar, d emand for corn syrup has also fallen as consumer sentiment tur ned towards it because studies linking high fructose corn syrup with obesity turned off consumers, thus changing their taste and preferences. With a further fall in demand of corn syrup, their share of the sweetener market might fall too. Anti-thesis: Cor n syrup producers should not be worried about their share of the sweetener market Although the above points to a fall in demand for corn syrup, the fall in demand might not be drastic as food producers would have to change recipes, edit product labels and retrofit factories, which will increase the cost of production if they change to using sugar. As such, sugar prices would have to remain consistently low to trigger a shift to the use of sugar as sweetener since prices of corn syrup has remained typically lower then sugar prices as mentioned in Extract 2. In addition, consumers may have grown accustom to the taste of corn syrup in food and as such, might not wish to change to sugar. Because of these reasons, the fall in demand for corn syrup will not be drastic. d) Explain one possible factor that determines the impact of a subsidy, like those given in Extract 3, on government expenditure. [2] Price of sugar When the price of sugar increases, the sugar industry will be willing to pay more for sugarcane. As such, the demand for sugarcane and hence the price increases. Thus, to ensure there is sufficient sugarcane being channelled to the ethanol industry, the go vernment must subsidies more to help pay for the higher factor input cost, thereby increasing the government expenditure. Other acceptable factors include Size of subsidy Time period for which the subsidy is given PED of the subsidised commodity e) Discuss the extent to which theory of comparative advantage explains why Brazil is the top exporter of sugar. [8] Thesis: Large production of sugar stem from comparative advantage The theory of comparative advantage states that countries can gain in terms of an increase in output and consumption from mutual trade if they specialize in producing (and exporting) those goods that they have relatively lower opportunity cost compared with other countries, provided the opportunity cost of various goods differ. Opportunity cost is defined as the benefits of the next best alternative forgone. As such, by examining the opportunity cost of producing a certain good for each country, a country can specialize in what they have comparative advantage in (i.e. lower opportunity cost) and thus, export that good to another country, while importing goods that they do not have comparative advantage in.

© RVHS 2015 8819/01 [Turn over Using the concept of opportunity cost, countries know where their comparative advantage lies and this will help them to decide on which good to specialize in and thus, export to other countries. The differences in opportunity cost arise because cou ntries have different endowments of factors of production. As such, in this case, Brazil has comparative advantage in the production of sugar due to its natural endowments such as land space and favourable weather conditions as stated in Extract 3 and hence explains why they are a top exporter of sugar. Anti-thesis: Large production of sugar doesn’t stem from comparative advantage but other reasons The theory of CA is based on a number of assumptions. These assumptions include no transport costs and no protectionist measures. However, in reality, there are transport costs and protectionist measures, which mean countries, would not specialises that mu ch, thereby limiting the benefits as postulated by the theory. As such, this reality weakens the argument that comparative advantage contributes significantly to Brazil being the top exporter. Based on Fig 3, the depreciation of the Brazilian Real agains t the US dollars over the years makes the price of sugar in US$ lower, thereby increasing its price competitiveness of sugar exports. Other acceptable reason: possible protectionist measures. In conclusion, the theory of Comparative Advantage does help explain to a small extent to why Brazil specialises in sugar but it is insufficient to justify why they are a top exporter as there are other forms of government intervention to propel Brazil as the top exporter of sugar. Knowledge, Application, Understanding and Analysis L3 For a developed discussion on the extent on why Brazil is a top exporter of sugar 6 - 8 L2 For a developed explanation on why Brazil is a top exporter of sugar For an undeveloped discussion on why Brazil is a top exporter of sugar. 3 - 5 L1 Smattering of valid points 1 - 2

f) Discuss the view expressed in Extract 1 that protectionist policies on sugar in the U.S. are irrational. [8] Thesis: The protectionist policies are irrational. 1. Higher sugar prices for consu