Describe the effects of the changes in the following factors on the market for p

Question

Describe the effects of the changes in the following factors on the market for peanut butter. i.e., describe how each factor (a-c) would shift either the demand or supply curve and what the effect the would be on the final equilibrium price (P*) and quantity (Q*) of peanut butter for the current (spot) marker

a) there was an unexpected decrease in next year's harvest of peanuts due to poor weather





(b) the price of bread increased







(c) fewer firms decided to produce peanuts.

The City of Seattle has imposed a sugar tax on sodas. The tax is only imposed on stores that sell soda within the the city limits

a) some proponents of the soda tax contend that this will not result in an increase of the price for soda after the taxis impossed
i) if the tax does not result in a price increase for sodas within the city, who then pays for the tax , i.e., who bears the incidence of the tax)? Which party - consumers or suppliers has the most inelasitic demand/supply curve?

What are the advantages and disadvantage of the following Government apporaches to reducing pollution: 1) standards, 2) taxes on pollution, and 3) marketable permits (that allow the firm to emit a set number of units of pollution or sell them to another firm) in terms of addressing negative pollution externalities?

Explanation / Answer

Solution :

Q1)- a) Unexpected decrease in next year's harvest :

Since, the next year's harvest is expected to decrease, and peanuts are inputs in production of peanut butter, the input cost for the suppliers increase. Thus, the consumers expect a higher price in future. As a result, their demand increases today, shifting the demand curve to the right.

Also, since input cost for suppliers is expected to increase in next year, suppliers will want to charge a higher price today by lowering the supply today and shifting the supply curve to the left. So, in equilibrium, P* will be higher, while Q* may be higher, lower or remain same, depending on the shifts in two curves.

b) The price of bread increased :

Note that bread and peanut butter are complements, i.e, they are consumed together. So, when the price of bread increases, demand for bread decreases. Since, the two are consumed together, as a result of decrease in demand of bread, demand for peanut butter also decreases. Thus, demand curve of peanut butter shifts leftwards, while supply curve remains same. Finally, at equilibrium, P* and Q* are lower than before.

c) Fewer firms decided to produce peanuts :

Clearly, peanuts are inputs in peanut butter production, as noted in part a). When the production of input (peanut) decreases, the production of final good (peanut butter) decreases as well. So, the supply curve shifts leftwards, while demand curve remains unchanged. And finally the equilibrium price, P* increases while the equilibrium quantity, Q* decreases.

Q2)- i) Note that the prices are paid by the consumers. When a tax is charged, and the price increases as a result of taxes, it means the consumer have to pay higher, and a part of that payment is given as tax by the suppliers. When the price doesn't increase as a result of taxes, it means consumers pay no part of taxes, i.e, they share no burden of tax. So, in such a case, the entire incidence of tax is born by the suppliers.

The party which has higher inelasticity shares a higher incidence of tax (think of a demand-supply diagram and notice that the curve with relatively higher slope (and thus, relatively lower elasticity) shares more burden of tax). Economically, this is because the curve with higher elasticity brings a lot of change in final quantity for even a small change in price. In our case, since incidence of taxes is born by suppliers, this party has the most inelastic supply curve. So, consumers have highly elastic demand curve, and if the prices increase (as a result of taxes), the quantity demanded by them would have fallen to a great extent, resulting in a very low quantity supplied and thus revenue generated for the suppliers who have relatively very low elastic supply curve, so they cannot shift the burden of tax on consumers.

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