Question

Consider three markets—rum, sugarcane, and whiskey. Suppose that all three markets are initially at equilibrium. A drought destroys much of the world sugar cane crop. Sugarcane is a main ingredient in rum, but sugarcane is not an ingredient in whiskey.

a. Use graphs to analyze the effect of the drought on the markets for each of the three goods. In other words, what will happen to prices and quantities in the markets for sugarcane, the market for rum, and the market for whiskey?

b. What happens to revenues for sugarcane growers, rum producers and whiskey producers? How do supply and demand elasticities affect your answer to this question?

c. Based on your analysis, compare the impacts of this drought on consumers, sugar cane producers, rum producers, and whiskey producers. Who is impacted the most by the drought? (Consider prices, quantities, and any possible offsetting responses by the affected parties.)

Answer 1

a) Drought destroyed production of sugarcane which shift supply curve of sugarcane to its left from S to S1 which raise its price from P to P1 and reduce output from Y to Y1.

As sugarcane is ingredient to run, it will raise net cost of making run which will shift supply curve of rum to its left which raise its price from P to P1 and reduce output from Y to Y1.

As sugarcane is not an ingredient of whiskey, it will not directy affect the market for whiskey. Due to rise in price of rum, consumers will shift to whiskey which will raise its demand and shift demand curv to it right from D to D1 which reduce price from P to P1 and raise output level from Y to Y1.

b) As sugarcane is ingredient to rum, its demand would be inelastic because rum producers would buy sugarcane even at higher prices to maintain their market even if they raise price of rum which will raise revenue for sugarcane producers.

Market of rum: It depends on the elasticity of rum that either they are able to raise their price equivalent to increase in raw material.

Market of whiskey: It will surely raise revenue for whiskey producers as there is hike in demand for them.

c) Consumers in all three market will get hurt because price in all market rises.

Sugarcane producers will benefit as it is an ingredient to rum. Rum producers will be negatively affected because of decrease in quantity and increase in price where its substitute is available while whiskey producers will also benefit from it because of increase in price as well as demand.

Rrum producers will most be affected by this drought.