CHAPTER 17: INTERNATIONAL TRADE

Transcription

1 CHAPTER 17: INTERNATIONAL TRADE QUESTIONS 1. The Egyptian Wheat Market 2. The Québec fir tree, more popular than ever 3. Fromageries Jonathan 4. Planet Maple 5. Canadian Football 6. The closure of Shell refinery could help Quebec 7. China and rare metals 1. The Egyptian Wheat Market According to The Wall Street Journal (September 30, 1983): the Egyptian government of the time subsidized wheat imports; wheat imports represent 75% of domestic consumption; the government paid 2.5 times more for imported US wheat than the price it paid Egyptian farmers for their wheat; average wheat consumption in Egypt increased from 206 pounds per capita in 1960 to 406 pounds per capita in 1982; in comparison, American wheat consumption per capita was 154 pounds in What are the effects on resource allocation of the Egyptian government s policy? Using a diagram of the wheat market in Egypt, identify the winners and losers from this policy. Explain why a government must control wheat exports when it subsidizes import. 2. The Québec fir tree, more popular than ever This year, nearly 1.7 million fir trees cultivated in Québec will be found in American thatched cottages... This explosion in sales is mainly explained by the persistent shortage of fir trees on the east coast. The trees are rare there. For example, just before 2000, the New York, New Hampshire and Vermont producers cut too many trees and now they are missing some explains Fernand R.Plante, president of the Quebec s Christmas Tree Producers Association. For the past few years, the quantity of Quebec firs sold in the United States varies around 1.5 million trees. The export of Christmas trees keep on increasing since the end of the 90 s and particularly since According to the producers Association the number of trees exported to the United States this year exceed 1.7 million, compared to 900,000 in Economic Problems and Policy Analysis Jacques Raynauld Page 17.1

2 The wholesale price of a fir tree measuring two meters is between $15 and $26. There are more than 2 million fir trees harvested annually in Québec, especially in the "Fir Triangle", sector found between the cities of Sherbrooke, Lac-Mégantic and Thetford Mines. Therefore, between 300,000 and 500,000 trees are left for the Québec market. We can not deny the taste for natural Christmas trees (we estimate that 40% of Quebecers prefer a natural Christmas tree to an artificial one), therefore these numbers should not be revised downwards. Translated from: Champagne, Stéphane, «Le sapin du Québec plus populaire que jamais», La Presse, November 23, A. In the following graph, we suppose that the province of Québec is a small player in the international Christmas tree market. The graph illustrates the following equations: (1) Demand: Q = P (2) Supply: Q = P where P represents the price in Canadian dollars of a Christmas tree and Q represents the quantity of Christmas trees. With the help of equations (1) and (2) and supposing that the world price of a Christmas tree is $25, calculate and illustrate in a graph: the quantities consumed domestically; the quantities produced by domestic producers; the exports; the Québec consumers surplus; the Québec producers surplus; the social welfare. Economic Problems and Policy Analysis Jacques Raynauld Page 17.2

3 Price of fir tree in $Can Quebec's fir tree World price Domestic supply Domestic demand 0 500,000 1,000,000 1,500,000 2,000,000 2,500,000 Quantity of fir trees B. Many consumers complain that Christmas trees are just as expensive in Québec. These consumers assert that this is surprising considering that the province overflows with firs, it s not normal! What do you think? Explain your point of view in five (5) lines maximum. C. The fir tree production uses pesticides that are harmful for the environment. Even though fir tree producers have reduced the use of pesticides, the Québec government is considering imposing a green tax on the production of Christmas trees. The proposed tax would be equal to the external cost. Illustrate graphically the impact of the tax by indicating its effect on: the domestic production; the domestic consumption; the exports. Discuss and illustrate graphically the impact of the tax on social welfare. Note: No calculation required. D. For question D., you will now suppose that the fir tree production is NOT harmful for the environment. What a pity! A possibly harmful insect has invaded the province and has chosen the fir tree as its home. Although the insect causes little damage to the Christmas trees and does not affect production costs, the American government forbade the entry of Québec fir trees on American soil in order to avoid a possible contamination. In a graph, illustrate the impact of this infestation on the Quebec Christmas tree market. Compared to the situation with trade (see question A), calculate the social welfare loss that results from the American interdiction. Briefly explain your reasoning. Economic Problems and Policy Analysis Jacques Raynauld Page 17.3

4 4. Planet Maple The sugaring off season may be running down now but it s worth noting that Quebec is a major player in the world maple syrup market. The following statistics are drawn from the Economic Fact Sheet 2004 produced by the Federation of Quebec Maple Syrup Producers: in 2004, Quebec accounted for 80% of world maple syrup production and 93% of Canadian production; in 2004, the price of maple syrup in Quebec, established by marketing board rules, was fixed at $2 per pound (this is a weighted price which takes into account syrup of different qualities); to have the right to produce maple syrup and to sell it on the wholesale market, Quebec producers are required to possess production quotas; marketing board rules stipulate that the Federation of Quebec Maple Syrup Producers must buy all members production at the fixed price of $2 per pound; in 2004, the Federation held a stock of approximately 60 million pounds of maple syrup made up of surpluses bought during previous years; in 2005, total production quotas for Quebec maple syrup producers were fixed at 80 million pounds of maple syrup; Canada exports maple syrup to more than 42 different countries, the United States being the largest buyer taking 80% of Canadian exports; Quebec producers represent about 80% Canadian exports. Fédération des producteurs acéricoles du Québec, page consultée le 28 avril 2005, Economic Problems and Policy Analysis Jacques Raynauld Page 17.4

5 Domestic Price in Quebec ($CAN per pound) Quebec Maple Syrup Market Supply World price Demand Quantity of Maple Syrup (in millions of pounds) A. Graph 2.1 illustrates the Quebec maple syrup market in 2005 and uses the following equations: (1) Demand: Q = P (2) Supply: Q = 40 P where and P is the domestic price (in Canadian dollars) for one pound of maple syrup Q is the quantity of maple syrup (in millions of pounds). Using equations (1) and (2) and assuming that the world price of maple syrup is Canadian $2 per pound and that Quebec exports are estimated to be 58 million pounds, calculate and illustrate graphically: the quantity consumed domestically (in Quebec); the quantity produced domestically (in Quebec); the quantity bought by the Federation of Quebec Maple Syrup Producers. B. Graph 2.2 illustrates the U.S. maple syrup market in 2005 and uses the following equations: (3) Demand: Q = P (4) Supply: Q = 10 P where and P is the domestic price (in Canadian dollars) for one pound of maple syrup Q is the quantity of maple syrup (in millions of pounds). Economic Problems and Policy Analysis Jacques Raynauld Page 17.5

6 Domestic Price in the US ($CAN per pound) United States Maple Syrup Market 6 5 Supply World price 1 0 Demand Quantity of Maple Syrup (in millions of pounds) Using equations (3) and (4) and assuming that the world price of maple syrup is Canadian $2 per pound, calculate and illustrate graphically: US consumers surplus; US producers surplus. C. To help maple syrup producers in Vermont and the North-East of the United States, the American government proposes to impose an import quota equal to 30 million pounds of maple syrup. Calculate the impact of this policy on: domestic American production; domestic American consumption; the domestic American price (in Canadian $) of one pound of maple syrup. Compared to the benchmark (reference case) analyzed in question B), calculate the impact of the import quota on American economic welfare taking care to identify all winners and losers of this policy. Illustrate your answer graphically. Note: You can assume that the maple syrup imported into the United States is marketed by a network of American importers who obtain their supplies directly from the various foreign suppliers. D. What would be the impact of the US import quota on the Quebec maple syrup market analyzed in question A) if one assumes that 80% of American imports come from Quebec? Briefly explain your answer by calculating the impact of the import quota on: the quantity consumed domestically (in Quebec); Economic Problems and Policy Analysis Jacques Raynauld Page 17.6

7 Football player's annual salary (C$ thousands) the quantity produced domestically (in Quebec); the quantity bought by the Federation of Quebec Maple Syrup Producers. 5. Canadian football Management of the Canadian Football League (CFL) are wondering about the relevance of the rule currently in effect with respect to non-imported players, better known as Canadian players. At present, each team is required to have at least 20 Canadian players out of a total of 42 players. The rest of the players hired are American. Management would like to loosen or even abolish this rule and allow each team to hire the players they want, whether Canadian or American. Many sports journalists are concerned at this change, which could lead to loss of interest from the public, who could no longer identify with home-grown Canadian stars. The attached graph illustrates the football player market in Canada. The supply curve represents the relationship between the annual salary (in Canadian dollars) and the number of Canadian players interested in playing for Canadian teams. Demand corresponds to a vertical line, since the eight teams in the League hire each year a total of 336 players (8 teams x 42 players per team). It is supposed that Canada is a small country and that it is very easy to recruit good American players coming out of U.S. universities who would agree to come and play in Canada for an annual salary of C$80,000. Football player market in Canada Supply for Canadian players Demand for players Number of football players A. Illustrate the current situation observed on the football player market in Canada. Each team is required to have at least 20 Canadian players out of a total of 42 players. Make sure you indicate clearly: the salary a Canadian player would be paid; the salary an American player would be paid; Economic Problems and Policy Analysis Jacques Raynauld Page 17.7

8 the number of Canadian players hired by Canadian teams; the number of American players hired by Canadian teams. Economic Problems and Policy Analysis Jacques Raynauld Page 17.8

9 B. Now illustrate the situation that would be observed if there were no rule on the number of Canadian players a Canadian team has to hire. Make sure you indicate clearly: the salary a Canadian player would be paid; the salary an American player would be paid; the number of Canadian players hired by Canadian teams; the number of American players hired by Canadian teams. C. Compared with the unrestricted reference situation analysed in B., what is the impact of the current rule discussed in A. on the well-being of Canadian players and Canadian owners? Calculate and illustrate your answer graphically, clearly identifying the winners and losers under the current rule; Where applicable, calculate, illustrate graphically and explain in economic terms the social loss or losses resulting from the current situation. D. To encourage the CFL, the Canadian government is considering introducing tax measures to encourage Canadian players to offer their services. Thus, each player could receive an annual subsidy of C$40,000. In return, the CFL would abolish the current rule governing the minimum number of Canadian players. Each team could then hire all the U.S. players it wanted. Illustrate your answer graphically, making sure you indicate clearly: the salary a Canadian player would be paid; the salary an American player would be paid; the number of Canadian players hired by Canadian teams; the number of American players hired by Canadian teams; the total annual cost of the subsidy for the Canadian government. E. Compared with the unrestricted reference situation analysed in B., what is the impact of the subsidy discussed in D. on the well-being of Canadian players and owners and the Canadian government? Calculate and illustrate your answer graphically, clearly identifying the winners and losers under the subsidy policy; Where applicable, calculate, illustrate graphically and explain in economic terms the social loss or losses resulting from the subsidy policy. F. Compare existing rule A. with subsidy policy D. If the goal is to encourage the participation of Canadian players, which policy do you feel is better from the resource allocation viewpoint? Briefly explain. Economic Problems and Policy Analysis Jacques Raynauld Page 17.9

10 Price of a barel of oil ($) 6. The closure of Shell refinery could help Quebec Table 1 indicates production costs and output of oil refineries in Quebec. Shell refinery is known for generating significant pollution: each barrel of oil produced by this refinery causes external costs worth $60. Oil produced by the two other refineries, Ultramar and Pétro-Canada, does not cause any negative externality. Quebecer s demand for barrels of oil is given by the following equation (also illustrated in the graph below): Q = P Table 1 Quantity produced (in thousands of barrels per day Marginal Cost per barrel ($) Ultramar Shell Pétro-Canada where: Q corresponds to the number of barrels of oil (in thousands of barrels per day) and P corresponds to the price of one barrel of oil. Quebec is a small player in the world market: it can either export or import all the oil it wants at the world price of $80 per barrel. A. Using the data provided in Table 1, illustrate on the graph below refineries private marginal costs curve (i.e. domestic supply) Quebec Oil Market Demand Daily Barrels of Oil (thousands) Economic Problems and Policy Analysis Jacques Raynauld Page 17.10

11 Price of a barel of oil ($) B. On the graph below on which you will have copied the domestic supply curve drawn in A., illustrate the situation observed on the Quebec oil market. Clearly indicate on your graph the quantity of barrels of oil consumed, the quantity produced by Quebec refineries and the quantity exchanged with the rest of the world. C. Still on the graph below, calculate and graphically illustrate the total cost of pollution caused by Shell s refinery. D. Using all the information provided and your answers to the previous questions, calculate Quebec society s welfare. Make sure to explain your reasoning and to provide details for your calculations. Illustrate your answer on the graph below and make sure to identify all the relevant elements Quebec Oil Market Demand Daily Barrels of Oil (thousands) E. Taking into account that Shell refinery recently closed and using data from Table 1, complete the graph below and draw the new refineries private marginal costs curve (i.e. domestic supply curve). F. Still on the graph below, illustrate the situation observed on the oil market in Quebec following the closure of Shell refinery. Make sure to clearly indicate on your graph the quantity of barrels of oil consumed, the quantity produced by Quebec refineries and the quantity exchanged with the rest of the world. G. Using all the available information, calculate Quebec society s welfare after the closure of Shell refinery. Make sure to explain your reasoning and to provide details for your calculations. Illustrate your answer on the graph below and make sure to identify all the relevant elements. Economic Problems and Policy Analysis Jacques Raynauld Page 17.11

12 Price of a barel of oil ($) H. Compare welfare obtained before and after the closure of Shell refinery and explain this difference in welfare using an economic argumentation (no graph required, 5 lines maximum) Quebec Oil Market Demand Daily Barrels of Oil (thousands) I. Following the closure of Shell refinery, what will be the impact on Shell workers and shareholders satisfaction and other citizens satisfaction? The graph below illustrates a satisfaction frontier with Shell s workers and shareholders satisfaction on the vertical axis and other citizens satisfaction on the horizontal axis. Out of the four scenarios listed in the table below, indicate the one that best describes the impact of closing Shell refinery in the two following cases. Briefly explain your choice by carefully describing BOTH the initial and final situations. (5 lines maximum). Case 1: All Shell workers found a job in another sector of the economy. Case 2: None of Shell workers found a job (they are all unemployed). Economic Problems and Policy Analysis Jacques Raynauld Page 17.12

13 Shell workers and shareholders satisfaction Other citizens satisfaction Scenario Initial Situation (Before the closure of Shell refinery) Final Situation (After the closure of Shell refinery) 1 Point 4 Point 2 2 Point 4 Point 1 3 Point 3 Point 1 4 Point 3 Point 2 7. China and rare metals China produces approximately 95% of the world's rare metals (rhenium, gallium, germanium, lithium, cobalt, tantalum, titanium, etc.). These rare metals are crucial in the production of glass, military equipment, and equipment for renewable energy. China has announced that it would reduce by 30% its export quotas, which will have a significant impact on the world price of rare metals. A. The graph below shows the domestic supply and demand curves of rare metals in Canada. Assume that Canada is a small player on the world market. You are asked to graphically illustrate the impact of the increase in world prices of rare metals from $180 to $200 per ton on domestic production, domestic consumption, and imports in the following two cases (no calculations required): i. Short-term. Canadian producers are unable to increase domestic production, due to the high amount of time required to open new rare metals mines. Initial production will not change even if the world price rises. Economic Problems and Policy Analysis Jacques Raynauld Page 17.13

14 Price of a ton ($) Price of a ton ($) Canadian market for rare metals Private domestic supply (private cost) Private domestic demand Quantity of rare metals (millions of tons) ii. Medium-term. Canadian producers of rare metals are able to increase domestic production of rare metals. Canadian market for rare metals Private domestic supply (private cost) Private domestic demand Quantity of rare metals (millions of tons) Economic Problems and Policy Analysis Jacques Raynauld Page 17.14

15 Price of a ton ($) B. We assume here that the rare metal mines in Canada are highly polluting and generate external effects of $20 per ton. Assuming a world price of $200 per ton over the medium term (see A. ii.), calculate the welfare of society that will be observed without any government intervention. Illustrate graphically the elements of your answer. Canadian market for rare metals Private domestic supply (private cost) Private domestic demand Quantity of rare metals (millions of tons) Calculations Consumer surplus Producer surplus Other (if necessary) Society s welfare Economic Problems and Policy Analysis Jacques Raynauld Page 17.15

16 Price of a ton ($) C. Mines are still generating external effects of $20 per ton. Assuming a world price of $200 and a medium-term horizon, calculate the impact on the welfare of society of a green tax of $10 on domestic production of rare metals. Illustrate graphically the elements of your answer. Canadian market for rare metals Private domestic supply (private cost) Private domestic demand Quantity of rare metals (millions of tons) Calculations Consumer surplus Producer surplus Other (if necessary) Society s welfare D. Compare the level of welfare calculated in C. to the one calculated in B. Explain the difference by using an appropriate economic reasoning (6 lines maximum). Economic Problems and Policy Analysis Jacques Raynauld Page 17.16

17 SOLUTIONS Economic Problems and Policy Analysis Jacques Raynauld Page 17.17

18 1. The Egyptian Wheat Market Solution We know two important things from the information given: first, the world price of wheat is less than the made-in-egypt price; and, second, the Egyptian government sells wheat to Egyptian consumers at less than the world price. On diagram 13-1, P* is the world price of wheat and (P*-S) is the price paid by consumers. Note that without the subsidy (S), domestic production would be X 1, domestic consumption would be X 2, thus (X 2 -X 1 ) would be imported. With the import subsidy, domestic producers will only produce X 3, households are induced to consume X 4, thus foreign producers gain because they export more (X 4 -X 3 ) to Egypt. Their gain, the total subsidy, is a loss to the Egyptian government and is given by b+c+d+e+f. As well as foreign producers, domestic consumers gain because they pay a lower price than otherwise. Their gain is measured by a+b+c+d+e. On the other hand, the loss of domestic producers is given by a+b. The net loss to Egypt because of this distortionary policy is, therefore, given by b+f. Note that domestic producers, because they have to compete with subsidized imported wheat, can only fetch price P*-S on the domestic market, whereas they could export their wheat for price P*. To prevent this, the Egyptian government must levy a per unit tax at least equal to the subsidy it gives foreign producers to nullify this incentive to export. An alternative would be to ban all exports of wheat. 2. The Quebec fir tree, more popular than ever Solution A. Supposing that the price is 25$, the quantities demanded and supplied are given by equations (1) and (2): (1) fir trees = (25$) (2) fir trees = (25$) Economic Problems and Policy Analysis Jacques Raynauld Page 17.18

19 Price of fir tree in $Can The exportations are equal to the difference between the domestic production and the domestic consumption (1,680,000 fir trees). Quebec's fir tree Consumer Surplus Domestic supply World price Producer Surplus 5 0 Domestic demand 0 500,000 1,000,000 1,500,000 2,000,000 2,500,000 Quantity of fir trees The consumers surplus corresponds to the chequered triangle with a surface area equal to ($35-$25)*(320,000/2)=$1,600,000. The producers surplus corresponds to the dotted surface area equal to ($25-$0)*(2,000,000/2)=$25,000,000. The social welfare is given by the sum of both surpluses ($26,600,000). B. It is true that the province overflows with fir tress and that the price could be lower but this reasoning is only valid in a closed economy without any trade. With trade, the producers can sell their trees at the world price of $25, that price automatically becomes the only reference price for a small opened economy. Producers have no interest in selling their trees at a lower domestic price since they can sell them for $25 in the United States. C. If the production of fir trees uses pesticides that are harmful for the environment, the real cost of production is no longer the private cost but the social cost that is equal to the private cost in addition to the external effect. A tax equal to the external cost will not have an impact on the world price (Québec being a small economy) but it does shift the supply offer upwards and reduces the domestic production. Since the domestic consumption is not touched, the exportations decrease. The tax allows an increase in social welfare by eliminating the social cost illustrated by the chequered triangle: for those units, the real cost of production (social cost) was superior to the world price. Hence the overproduction and the social loss. Economic Problems and Policy Analysis Jacques Raynauld Page 17.19

20 Price of fir tree in $Can Price of fir tree in $Can Quebec's fir tree Social Cost 25 World price Social Loss Domestic demand 0 500,000 1,000,000 1,500,000 2,000,000 2,500,000 Quantity of fir trees D. The complete closing of the American market eliminates all possibilities of export. The price is now given but the meeting point of the domestic supply and consumption, which is of $10. Quebec's fir tree World price Domestic supply Domestic demand 0 500,000 1,000,000 1,500,000 2,000,000 2,500,000 Quantity of fir trees Economic Problems and Policy Analysis Jacques Raynauld Page 17.20

21 Price in $CAN of 1 hectolitre of milk The consumers surplus corresponds to the dotted triangle ($35-$10)*( /2)= $10,000,000. The producers surplus is given by the chequered triangle ($10-$0)*(800,000/2)=$4,000,000. The social welfare is equal to $14,000,000, a much smaller amount than the $26,600,000 of the situation with trade. Consumers win but society as a whole loses since the interdiction. 3. Fromageries Jonathan Solution A. The introduction of a quota system on milk production accompanied by a floor price of $60 per hectolitre raises the price to $60 and decreases exchanged quantity to 20 million hectolitres. The annual economic rent is equal to the difference between the floor price of 60$ and the actual production cost ($30). It is illustrated by the ruled rectangle and is equal to ($60-$30)*20 million = 600 million hectolitres. The social loss is illustrated by the black triangle and is equal to 150 million. There is a social loss because the value accorded to the hectolitres from 20 to 30 (black and cross ruled surfaces under the demand curve) is larger than the production cost (black and cross ruled surfaces under the supply curve). We conclude that Mr. Portelance is right in criticizing the price of milk because the actual price is higher than the observed price when there is no quota. Quebec industrial milk market Quotas Rent Social Loss Supply Demand Quantity of milk (millions of hectolitres) B. The impact of a world price of $40 is that the quantity of fine cheese produced by Quebec cheese makers is equal 30,000 kilograms, the quantity consumed locally is 10,000 kilograms and the quantity exported is equal to 20,000 kilograms. C. The world price is the reference and is the one that should be observed. Why would the producers sell their cheese to the local consumers at a lower price than they could get selling it in the United States? When domestic price equals world price, the social welfare of Quebec is maximized. Economic Problems and Policy Analysis Jacques Raynauld Page 17.21

22 Price in US$ of 1 kilogram of fine cheese D. The subsidy shifts the supply curve downward. The shift is equal to $10 (subsidy amount). The quantity produced increases from 30,000 to 40,000 kilograms. The quantity exported is now 30,000 kilograms and the quantity consumed by locals remains the same. The subsidy paid by the government is equal to 40,000 kilograms * $10 and is illustrated by the black and ruled surface. Quebec fine cheese market Domestic supply O + Subs Domestic demand Quantity of fine cheese (thousands of kilograms) E. There is a social loss because the production cost of the 10,000 kilograms produced because of the subsidy is higher than the international price. The social loss is illustrated by the black triangle F. The subsidy program has no impact on the industrial milk market because the quantity of milk produces is fixed by a quota. The shift in the demand (illustrated by the pointed curve in question A) raises the market price and the quota price. After a certain period of time the subsidy will have no impact on the quantity of fine cheese exported because the cheese producers will have a hard time obtaining industrial milk. 4. Planet Maple Solution A. At a price of 2$, the quantity consumed by local is equal to: (1) Demand: Q = $ = 20 million of pounds. The quantity produced by local producers is the one fixed by the quota and is equal to: (2) Supply: Q = 40 2$ = 80 million of pounds. Economic Problems and Policy Analysis Jacques Raynauld Page 17.22

23 Domestic Price in the US ($CAN per pound) The difference between the produced quantity and the consumed quantity is equal to 60 million of pounds and would normally by export. However, it is mentioned that only 58 millions of pounds are actually exported, which means that the Federation buys 2 million of pounds and add it in a maple's syrup bank. This is a consequence of the floor price program. The Federation buys everything that is produced at a floor price of 2$. B. The surplus of the American producers corresponds to the surface below the demand curve. We can find the intercept point with the demand curve (3): (3) Demand : Q = P P = 9 0,1 Q P = 9 The surplus is equal to the surface delimited by the intercept point (9$), the world price ($2) and the consumed quantity (70 million) so (($9-$2)*70)/2 = 245 millions of dollars (cross ruled surface). With the supply curve the surplus is equal to the triangle delimited by the intercept point ($0), the international price ($2) and the produced quantity (20 million) so 2*20/2 = 20 millions (black triangle). United States Maple Syrup Market Supply Consumer Surplus 3 2 World price 1 0 Producer Surplus Demand Quantity of Maple Syrup (in millions of pounds) C. The US economy imports 50 million of maple's syrup pounds. The import quota creates a scarcity and the US domestic price in $C will be higher than the international price of $2. With the supply and the demand curves we find that at a price of $3 the consumed quantity is equal to 30 millions which brings the importation to a level of 30 million of pounds. This level is equal to the quota fixed by the American government. The table below illustrates the gains and losses of this program: Before After Gain or loss Graphic Economic Problems and Policy Analysis Jacques Raynauld Page 17.23

24 Domestic Price in the US ($CAN per pound) Producer 20 million of $ 45 million + 25 million A Consumer 245 million 180 million - 65 million A+B+C+D Exportation agent 0 30 milllion + 30 million C Total - 10 million -B-D The graphic below illustrates the impact of the importation quota. There is an inefficient production because the government encourages the production of syrup at a cost of 3$ when they could buy it at $2 (B surface). There is a loss in the consumer's satisfaction because their consumption decreases (D surface). United States Maple Syrup Market 6 5 Supply A C World price 1 B D 0 Demand Quantity of Maple Syrup (in millions of pounds) D. Because of the floor price of $2 and of the production quota of 80 million, the fact that the American importations decrease has no impact on the production or consumption of maple's syrup in Quebec. The quantity exported by Quebec's producer will be 16 million lower and this quantity and the Federation will buy it. The bank of maple's syrup will now be equal to 2 million + 16 million = 18 million of pounds. Economic Problems and Policy Analysis Jacques Raynauld Page 17.24

25 Football player's annual salary (C$ thousands) 5. Canadian football Football player market in Canada A B C D Number of football players A. Under current rules, the owners will hire 160 Canadian players and 176 American players (difference between 336 and 160). Canadian players would be paid $120,000 (because of the rule) and American players would be paid the world price, $80,000. B. Without any rule on the number of Canadian players, the owners will hire 80 Canadian players and 256 American players (difference between 336 and 80). Canadian and American players would be paid the world price, $80,000. C. Canadian players earn areas A and B (3.2 million million = 4.8 million). The owners lose areas A+B+C (6.4 million) because they have to pay the Canadian players more. American players are not affected. Society loses triangle C (1.6 million). The owners pay 80 Canadian players a salary of $120,000 when they could have replaced them with cheaper American players. D. The supply curve for Canadian players moves downward by an amount equal to $40,000. The owners will hire 160 Canadian players and 176 American players (difference between 336 and 160). Canadian and American players would be paid the world price, $80,000. The government subsidy is illustrated by the rectangle corresponding to areas A+B+C ($40,000 x 160 players = $6.4 million). E. Canadian players earn areas A and B (3.2 million million = 4.8 million). The owners and American players are not affected. The government loses areas A+B+C (7.2 million). Society loses triangle C (1.6 million). The government subsidizes 80 Canadian players for an amount of $40,000 each when no subsidy would have been necessary in B. The Canadian players could have been replaced by cheaper American Economic Problems and Policy Analysis Jacques Raynauld Page 17.25

26 players. F. The two rules are identical in terms of resource allocation. They generate the same social loss C. In one case, it is the owners who lose, and in the other the government. 6. The closure of Shell refinery could help Quebec A. See staircase curve. B. The quantity of barrels of oil consumed is equal to 900, the quantity produced by Quebec refineries is equal to 500 and the quantity exchanged with the rest of the world is equal to 400. C. The refinery produces 200,000 barrels which each generate $60 of external costs for a total cost of 12 millions of dollars (rectangle delimited by the dotted lines). D. The consumer surplus is equal to ($260 - $80) X 900 = 81 millions of dollars (hatched triangle). The producer surplus is the sum of three rectangles, that is (80-20) X (80-40) X (80-60) * 100 = 22 millions (cross-hatched surface). Then, we must deduct the total pollution costs of 12 millions (dotted lines rectangle) to obtain the total social welfare, that is 91 millions. E. See graph below. F. The quantity of barrels of oil consumed is equal to 900, the quantity produced by Quebec refineries is equal to 300 and the quantity exchanged with the rest of the world is equal to 600. Economic Problems and Policy Analysis Jacques Raynauld Page 17.26

27 G. The consumer surplus is equal to ($260 - $80) X 900 = 81 millions of dollars (hatched triangle). The producer surplus is the sum of two rectangles (80-20) X (80-60) X 100 = 14 millions. The total society welfare is equal to 95 millions. H. The society s welfare increases by 4 million because prior to Shell refinery closure, the social cost of its 200 barrels production was equal to $100 ($40 + $60) per barrel when it was possible to buy the same quantity of oil at a world price of $80. By supplying Quebec demand from the world market instead of the Shell refinery, the society saves $20 per barrel times 200,000, that is 4 millions of dollars. Note: We make the assumption that oil refined abroad does not produce any external effect. I. Case 1: All Shell workers found a job in another sector of the economy. Scenario 2 is most likely to happen. The initial situation is under the frontier because of the pollution generated by Shell but the final situation is on the frontier because it is optimal (no pollution). Shell s workers satisfaction and shareholders satisfaction is lowered a bit (workers change to another job and shareholders lose surplus) but citizens satisfaction increases. Case 2: None of Shell workers found a job (they are all unemployed). Scenario 1 is the most likely to happen. The initial situation is under the frontier because of the pollution generated by Shell but the final situation is still under the frontier because of unemployment (underuse of resources). Shell workers and shareholders satisfaction are lowered considerably (workers lose their jobs and shareholders lose some surplus) but citizens satisfaction increases. Economic Problems and Policy Analysis Jacques Raynauld Page 17.27

28 Price of a ton ($) ($) 7. China and rare metals A. i. Short-term: The domestic supply curve is vertical starting at the initial quantities. Canadian producers are not able to increase their production following the world price increases from 180 to 200. The domestic consumption decreases from 7 to 5, the local production stays constant at 1 and the importas decrease from 6 to 4. Canadian market for rare metals Private domestic supply (private cost) i. Initials importations ii Private domestic demand Quantity of rare metals (millions of tons) ii. Medium-term: Canadian producers of rare metals are now able to increase the domestic production following the price increase. This represents the usual case. Following the world price increase, the domestic production increases to 2, the domestic consumption decreases to 2 and importats fall to 2. B. See below where the dotted curve represents the social production cost. Calculations Consumer surplus Producer surplus Pollution Society s welfare ($250 - $200 ) x 5 millions x ½ = 125 millions of dollars (dotted triangle) ($200 - $170 ) x 3 millions x ½ = 45 millions (hatched triangle) $20 x 3 millions = 60 millions (parallelogram delimited by dotted lines) = 110 millions Economic Problems and Policy Analysis Jacques Raynauld Page 17.28

29 Price of a ton($) ton($) Price of a ton ($) ($) Canadian market for rare metals Social cost Private domestic supply (private cost) Private domestic demand Quantity of rare metals (millions of tons). C. The tax moves the domestic supply curve upward by $10. Canadian market for rare metals Social cost Social cost + tax Private domestic Supply (private cost) Private domestic demand Quantity of rare metals (millions of tons) Economic Problems and Policy Analysis Jacques Raynauld Page 17.29

30 Calculations Consumer surplus Producer surplus ($250 - $200 ) x 5 millions x ½ = 125 millions of dollars (dotted triangle) ($190 - $170 ) x 2 millions x ½ = 20 millions (hatched triangle) Tax income $10 x 2 millions = 20 millions (cross-hatched rectangle) Pollution Society s welfare $20 x 2 millions = 40 millions (parallelogram delimited by dotted lines) = 125 millions D. The society s welfare increases by 15 millions. The $10 tax leads to a decrease in the domestic production of 1 million of units. These units have been generating a social cost superior to the world price. The tax ensures that these polluting units are replaced by imported units that are socially cheaper insofar as they do not cause any pollution (assumption). Economic Problems and Policy Analysis Jacques Raynauld Page 17.30