2017 Case Study Question 1
a) Diet Westernisation will lead to obesity which will produce external costs such as a fall in the productivity of the labour force which is detrimental to the wider community. Extract 1 (Paragraph 1) states that the problem of obesity has resulted in a fall in the productivity of the labour force.
b) A necessity is a good with an income elasticity of demand between zero and one. The higher the degree of luxury of a good, the higher the income elasticity of demand, and vice versa. According to Table 1, poultry has the lowest degree of luxury as it has the lowest income elasticity of demand of 0.02 and hence it is more of a necessity compared to the other two types of meat.
c) According to Table 2, the PED for chilled beef from Australia in Japan is 0.92 which is less than one which means that the demand is price inelastic. Therefore, a rise in the price will lead to a smaller proportionate decrease in the quantity demanded resulting in an increase in total spending which is the product of the price and the quantity. In contrast, the PED for chilled beef from the rest of the world in Japan is 1.18 which is greater than one which means that the demand is price elastic. Therefore, a rise in the price will lead to a larger proportionate decrease in the quantity demanded resulting in a decrease in total spending.
d) According to Extract 2 (Paragraph 4), the XED for chilled beef from the US w.r.t. a change in the price of chilled beef from Australia = 0.74. The XED for chilled beef from the ROW w.r.t. a change in the price of chilled beef from Australia = 1.34. As the XED is positive, the goods are substitutes. In the case of the demand for chilled beef from the ROW w.r.t a change in the price of chilled beef from Australia, the higher XED indicates a high degree of substitutability.
e) The Japanese government can increase tariffs on imports of food particularly meat. An increase in tariffs on imports of meat will lead to a rise in the prices which will lead to an increase in the production and a decrease in the consumption resulting in a smaller shortage and hence a decrease in imports. Extract 1 (Paragraph 2) states that Japan imports the majority of beef consumed and has low self-sufficiency in meat which means that it imports a lot of meat. Therefore, a decrease in imports of meat is likely to lead to a large decrease in imports of food.
Limitations:
- Extract 2 (Paragraph 2) states that Japan’s imports of beef from the US account for over 20% of US total exports of beef. Therefore, increasing tariffs on imports of meat in Japan is likely to invite retaliation from the US which is likely to be adversely affected to a large extent.
- Increasing the tariffs on imports of meat in Japan will lead to higher prices for Japanese consumers. For example, the increase in tariffs on $250 billion of goods imported from China in the US in recent months has led to higher prices for American consumers.
The Japanese government can increase the production of food particularly meat by decreasing the cost of production. Extract 1 (Paragraph 2) states that Japan imports the bulk of the cattle feed used for its domestic beef production which indicates that this can be done through decreasing the tariff on the import of cattle feed. A decrease in the tariff on the import of cattle feed will lead to a fall in the price which will lead to a fall in the cost of production of cattle. When this happens, the supply of cattle will increase which will lead to a fall in the price resulting in a fall in the cost of production of beef and hence an increase in the production.
Limitations:
- A decrease in tariffs on imports of meat in Japan will lead to a fall in tax revenue which will lead a greater budget deficit resulting in an increase in the Public Debt-to-GDP ratio. This is a matter of concern as Japan has a high Public Debt-to-GDP ratio of about 200% which is the highest in the world.
Extract 1 (Paragraph 1) states that obesity resulting from over-consumption of meat leads to health problems such as heart disease and diabetes. Many Japanese consumers are not fully aware of the detrimental effects of obesity resulting from over-consumption of meat. Therefore, the Japanese government can decrease the consumption of meat through education vis conducting healthy living campaigns to increase the awareness of the detrimental effects of obesity resulting from over-consumption of meat.
Limitations:
- Education is not legally binding which means that it is not mandatory for people to respond to it.
- Even if people do respond to education, the effects will only be realised in the long run and this is particularly true for consumption of meat due to the addictive nature.
Extract 1 (Paragraph 2) states that one of the reasons for diet Westernisation in Japan is the increase in the number of supermarkets. Therefore, the Japanese government can incentivise supermarkets to carry more fish and vegetable products and fewer meat products. This can be done through providing a tax rebate to supermarkets whose vegetable and fish products account for at least a certain proportion of their food products. This will make it harder for Japanese consumers to buy meat and hence will induce them to decrease consumption.
Limitations:
- Supermarkets may place a higher premium on the right product mix to appeal to consumers. Therefore, they may not be responsive to such a government initiative.
- In order to determine which supermarkets are entitled for the tax rebate, the government will need to incur the cost of monitoring.
Evaluation: It is unlikely that Japan will be able to increase self-sufficiency in food significantly as the measures which can be used to increase self-sufficiency in food are subject to limitations which substantially limit their effectiveness. For example, Extract 2 (Paragraph 5) states that Japan and Australia have signed a bilateral FTA and extract 3 (Paragraph 3) states Japan and the US are signing a multilateral FTA with another 10 countries. Given that Japan’s imports of beef from Australia and the US accounted for about 90 per cent of its imports of beef in 2014 which is stated in Extract 2 (Paragraph 2), and these FTAs make it impossible for Japan to increase tariffs on imports of beef from the two countries, tariffs are unlikely to be an effective measure to increase self-sufficiency in food.
f) When tariffs on US’s goods are removed or reduced in the FTA member countries, firms in the FTA member countries that import and sell US’s goods will experience a fall in their costs of production which will induce them to decrease prices to maintain competitiveness. When this happens, US’s goods will become cheaper in the FTA member countries. Therefore, signing FTAs in the US will lead to an increase in exports which will lead to an increase in aggregate demand. Furthermore, firms in non-FTA member countries that export goods to the FTA member countries and want to circumvent the tariffs will invest in the US. By setting up production facilities in the US, the goods that they produce in the US and export to the FTA member countries, which will be subject to lower or no tariffs, will be cheaper than those that they produce in non-FTA member countries and export to the FTA member countries, and this will lead to an increase in their sales and hence their profits. Therefore, signing FTAs in the US will lead to an increase in foreign direct investments which will lead to an increase in aggregate demand. An increase in exports and investment expenditure in the US will lead to an increase in aggregate demand which will induce firms to increase production resulting in an increase in national output. When firms increase production, they will employ more factor inputs from households and hence will pay them more factor income which will lead to an increase in national income. Furthermore, due to the multiplier effect, the initial increase in aggregate demand due to the increase in exports and investment expenditure will lead to a larger increase in national output and hence national income. Extract 3 (Paragraph 1) states that the TPP will create new economic growth among the countries involved. Extract 3 (Paragraph 4) states that the 12 TPP countries have a collective population of about 800 million which indicates that the increase in exports and hence national output is likely to be large. An increase in national output will lead to a rise in the demand for labour in the economy resulting in a fall in unemployment. Extract 3 (Paragraph 5) states that the TPP will increase US farm employment which will lead to a fall in unemployment.
Signing FTAs will lead to a decrease in the cost of production in the economy due to the removal or the reduction in tariffs on imports of intermediate goods and hence increase in aggregate supply resulting in higher economic growth, lower unemployment and lower inflation. Lower inflation which may increase export competitiveness is important in a global environment where competition is growing. For example, Extract 3 (Paragraph 5) states that competition in the agriculture sector is rising.
Cheaper imports from the FTA member countries in the US will induce households and firms to switch from domestic goods to imports resulting in a decrease in the demand for domestic goods. When this happens, aggregate demand will fall which will lead to lower economic growth and higher unemployment. For example, the USSFTA has led to an increase in US’s imports from Singapore resulting in a decrease in the demand for domestic goods.
Furthermore, foreign firms are footloose and hence if market conditions in other economies become more favourable in the future, they may pull their operations out of the US. If this happens, unemployment in the US may rise substantially. For example, the recent trade war between the US and China has prompted some foreign firms in the US to relocate their manufacturing plants to other countries.
If the US signs FTAs with developing economies, the low value-added industries in the US will decline at a faster rate as developing economies have a comparative advantage over the US in producing low value-added goods due to their larger amounts of low-skilled labour. If this happens, the rate at which low-skilled workers in the US are laid off will increase which will lead to a rise in structural unemployment. Furthermore, a more rapid decline in the low value-added industries will lead to a more rapid decrease in the demand for low-skilled workers. This will depress the wages which will worsen income inequity. Extract 3 (Paragraph 1) states that some Americans fear that the TPP will cause the US to lose jobs to developing countries. Extract 3 (Paragraph 2) states that the TPP involves LDEs which include Malaysia and Vietnam and hence it may lead to an increase in structural unemployment in DEs such as the US and Japan.
Evaluation:
The benefits of FTAs are likely to outweigh the costs. Due to limited overlap between imports and domestic goods, the increase in imports is likely to have a limited effect on the demand for domestic goods and hence is likely to lead to a small decrease in aggregate demand. Therefore, the effect of the increase in exports on AD is likely to be greater than the effect of the increase in imports on AD which will lead to higher economic growth and lower unemployment. For example, Singapore has been signed the highest number of FTAs in the world and has been experiencing rising aggregate demand. Nevertheless, the government should take measures to reduce the costs of FTAs in order to maximize the next benefits. For example, the government of a developed economy can engage in education and training to reduce structural unemployment and income inequity.
A more elaborate answer to 2017 Case Study Question 1 will be provided in the economics tuition class.
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