Chapter 34: Problem 2

Explain how a subsidy on agricultural goods like sugar adversely affects the income of foreign producers of imported sugar.

Short Answer

Expert verified

A subsidy on agricultural goods like sugar lowers production costs and encourages domestic production, shifting the supply curve to the right and resulting in a lower market price for sugar. Consequently, foreign producers of imported sugar face greater competition and reduced demand, leading to lower sales and revenue. In the long run, foreign producers may face financial stress or exit the market, further reducing their income.

Step by step solution

Explain the concept of subsidy

A subsidy is a payment or financial support provided by the government to producers or consumers, with the aim of achieving desired economic and social outcomes. In this case, we are looking at a subsidy provided to local producers of sugar. This financial support lowers production costs and therefore encourages the production of more sugar domestically.

Understand the impact of subsidy on market equilibrium

Normally, the market equilibrium is determined by the intersection of supply and demand curves. However, a subsidy shifts the supply curve to the right due to lower production costs for subsidized goods. As a result, the market equilibrium for sugar will occur at a lower price and higher quantity.

Explain the impact of lowered price on imported sugar

With the market price of sugar lowered due to the subsidy, foreign producers of imported sugar face greater competition from the now cheaper locally produced sugar. Foreign producers must lower their prices or find it difficult to compete with domestic producers, leading to lower sales and revenues.

Discuss the effect of reduced demand on foreign producers

Due to the increased competition in the local market and decreased demand for imported sugar, foreign producers face declining profit margins and sales volumes. As a result, these foreign producers experience lower overall incomes.

Explain the long-term consequences

In the long run, as foreign producers fail to maintain market share, they might be forced to exit the market. This may lead to consolidation among regional players or international sugar producers. Additionally, those foreign producers who remain could be faced with financial stress, ultimately forcing them to reduce production or exit the market. In summary, a subsidy on agricultural goods like sugar adversely affects the income of foreign producers of imported sugar by lowering local prices, increasing competition, and reducing demand for imported sugar in the market, ultimately leading to reduced revenue and income for foreign producers.