Question

1. The U.S. government has protected the $8 billion US sugar industry for years through protectionist trade policies. The following are estimates of the reduced-form US supply and demand curves for sugar (competitive market):

Q_s = -6 + 1.07P              Q_d = 44 – 0.30P

Prices are in cents per pound and quantities are in billions of pounds per year.

1. If the world price of sugar is 20 cents/pound, how much would be supplied by US producers and how much would be demanded if free trade reigned? Using the above equations, calculate the quantity of imports and draw a diagram of the US market under free trade.

2. Due to lobbying by the domestic sugar producers, suppose the US government imposes a 3 billion pound sugar quota on imported sugar. (This means that the maximum allowable quantity of imported sugar in a given year is 3 billion pounds). Using the equations, calculate the new post-quota price, domestic quantity supplied and domestic quantity demanded if the quota is enforced. Show the effects of the quota on a diagram, including the impact on consumer and producer surplus of the quota (assuming that the government does not auction the import licenses.) What is the $ value of the deadweight loss of the quota?

3. Suppose many US commercial food processors start to substitute high-fructose corn syrup for raw sugar in their applications, reducing the demand for sugar by 20%. With the sugar import quota in place, calculate the new equilibrium price of sugar, quantity supplied domestically, quantity demanded, and imports in response to this shock. Compare this situation to the outcome if, instead, there had been a specific tariff in place. Under which policy are producers and consumers better off if demand shocks occur? Explain your reasoning (diagrams aren’t necessary.)

Answer 1