2013_DHS_H2_EC_P1 Ans Scheme

1 Case Study Question 1 - Answer and Mark Scheme: (a) Compare the trends in wine and beer consumption between 2008 and 2011.  Consumption of beer in the USA has always been higher than the consumption of wine. [1m]  US consumption of beer as a percentage of those who drink fell from 2008 to 2011, while that for wine increased during the same period. [1m] Note: Answers that state “US beer consumption fell from 2008 to 2011 while that for wine increased” will be marked incorrect as the values are percentage NOT absolute figures.                                                                                       [2] (b) (i) Using a relevant elasticity concept, explain why the Americans are turning towards wine consumption. Identify the relevant elasticity concept [1m]: Beer and wine both being alcoholic drinks are close substitutes in consumption, with cross elasticity of demand being more than 1. Reasoning [1m]: As evident from extract 1, “beer prices are rising faster than Consumer Price Index.” As beer price increases, by law of demand it will lead to a fall in quantity demanded, ceteris paribus. Although there is no change in absolute price of wine, its relative price becomes lower. Consumers who were previously consuming beer will switch over to consume wine, thus increasing the demand for wine. [2] (ii) With the aid of diagrams, explain the impact of a rise in demand for corn-based ethanol on the price of US beer. Corn-based ethanol and barley are in competitive supply [1m]  Both corn and barley are in competitive supply, as they required the same factor of productions, such as land and fertilizers. An increase in demand for corn-based ethanol will increase the derived demand for corn from D 0 to D 1 in fig 1(a), signaling a rise in price of corn. Farmers will increasingly shift towards planting more corn and increasing the quantity supplied of corn from Q 0 to Q 1. This will result in fall in supply of barley, from S0 to S1 in fig 1(b).  Evidence from Extract 2: “barley could become increasingly scarcer” [4]

2 Explanation of the price-adjustment process with diagrams [2m]  The fall in supply of barley will create a shortage at the initial equilibrium price, P0 in Fig 1(b)  Consumers who strongly want to consume barley will be willing and able to pay a price higher than current equilibrium price. Producers observing such behavior of consumers (prices are increasing) are more willing and able to increase the quantity of barley supplied. However, as prices increase, some consumers whose utility of consuming barley is not maximized at price higher than equilibrium price will decide to leave the market. Thus as prices of barley rises, quantity demanded falls. This process will continue and stop when the demand and new supply of barley meets each other at the higher equilibrium price, P 1. Increase in price of barley, increases the cost of production of beer,