1.As per the given information, the government is currently mulling the option of imposing a higher excise tax on alcohol sale. It is apparent that excise tax is an indirect tax which would lead to changes in demand supply for alcohol as has been indicated below (Arnold, 2008).
The excise duty is charged on the various manufacturers of alcohol which would be imposed on the customers and hence the supply curve for alcohol would shift upwards. The demand curve in the short term tends to remain constant and hence there would be an increase in the price of alcohol which would theoretically lead to a lower production as is apparent from the diagram indicated above. In this manner, the alcohol abuse menace can be controlled (Pindyck and Rubinfeld, 2001).
However, a key relevant factor in this regard is the underlying elasticity of the alcohol products. This is an essential factor as if the elasticity is high, then majority of the tax burden would have to be borne by the manufacturers and suppliers This is because if a higher tax burden is passed on to the consumers, the price would become high and the demand would drop. On the other hand, low elasticity would indicate that customers would be relatively less sensitive to increase in prices and thereby a larger tax burden could be passed on to the end consumers (Nicholson and Snyder, 2011).
The demand for alcohol can be taken as inelastic with an estimated price elasticitiy ranging in the interval of -0.2 and -0.4. As a result, the distribution of the tax burden can be summarised as follows.
It is apparent from the above figure that even though most of the tax burden has been passed on to the buyer but still the decrease in the quantity consumed is minimal as indicated from a change to Q to Q1. This is made feasible by the relatively inelastic demand of alcoholic products as these are addictive in nature (Krugman & Wells, 2008).
Another method through which the government may try to resolve the problem of alcohol and lower the consumption is by a minimum price which would be above the equilibrium price and thus would allow in reducing the negative externality associated with the consumption of alcohol. The relevant diagram in this regards is stated below (Besanko & Braeutigam, 2010).
It is apparent from the above graph that imposing a minimum price of alcohol leads to a creation of excess supply as the demand at a higher price would essentially be lower as determined by the underlying demand function. As a result, the equilibrium quantity of consumption would come down to Q2 as has been indicated in the graph shown below (Mankiw, 2014).
The merits of putting a minimum price on alcohol are as follows (Mankiw & Taylor, 2011).
- The consumers tend to pay for the social cost associated with alcohol.
- It tends to be highly effective for young consumers who tend to over consume alcohol.
- As a result, of the minimum prices, it is possible that people would tend to drink in pubs rather than procure liquor from various supermarkets.
However, the minimum price approach also has significant demerits such as it would adversely affect the people with lower income making alcohol take away a higher proportion of salary, lead to increase in profits by the private players while the government does not get any incremental funds (Pindyck and Rubinfeld, 2001).
In comparison, the merits of an excise tax on alcohol are indicated below (Arnold, 2008).
- It tends to lead to decrease in the consumption of alcohol by increasing the price.
- It leads to the collection of a significant amount of revenue for the government which can be used for creating awareness specially amongst the young users of the perils of alcohol and strengthen the rehabilitation centers.
- It tends to adversely impact the profit margins of suppliers and may put some of them out of business thus resulting in overall reduction in supply of alcohol.
On the basis of the above discussion, it may be concluded that relative merits of the imposition of the additional excise duty are higher in comparison with imposition of minimum price. The key advantage of hiking excise duty is in the form of additional revenues which could be used to cater to the addicted individuals and youngsters so as to manage the demand side and further lower the consumption of alcohol.
2.a.A monopolistically competitive market in the short run can realize economic profits. However, in this market, in the long run the various parameters such as price, demand and supply factors are subject to change. One of the critical factors in this regards is the entry and exit of the various firms from the market (Pindyck and Rubinfeld, 2001).Typically when new firms tend to enter into the market, there is an increase in the supply and hence the prices are revised to a level which is equal to LRAC (Long Run Average Cost) i..e, the firms do not make any economic profits. Similarly, in case of firms making losses, some of the existing firms would quit the market which would increase the price in order to ensure that no losses are realized. Hence, there is a self- equilibrating mechanism at play which tends to get active when the price deviates from the LRAC. The main reason behind this is that there are no entry and exit barriers in case of monopolistically competitive market (Krugman & Wells, 2008). The relevant diagram in this regard is indicated below.
Hence, in the given case, the price would be equal to the LRAC of $ 200.
b.The key features of a oligopolistic market are indicated as follows (Besanko & Braeutigam, 2010).
- The market has a presence of only a few producers.
- There are barriers to entry which are greater than the perfect competition market structure but less than monopoly.
- The firms tend to sell differentiated products and as a result marketing assumes a key role.
- With regards to decisions in relation to price and output, there is interdependence amongst the firms as these would tend to depend on the corresponding decisions taken by the rival firm.
Three industries where oligopoly may be observed in Australia are as indicated below (Mankiw & Taylor, 2011).
- Supermarkets – The market is dominated by two major firms i.e. Woolworths and Coles along with presence of other smaller players. Barrier to entry exists in the form of capital investment and strong supply chain. Competition is not only price based but also non-price based.
- Mining – The market is dominated by two major firms i.e. BHP Billiton and Rio Tinto. However, there are other smaller players as well. Barrier to entry exists in the form of capital investment and also mine availability. Competition is not only price based but also based on ore quality.
- Banks – The banking industry is dominated by certain major players but there is existence of other smaller players also. Further, barriers exist to entry in terms of capital investment requirement and also approval from RBA (Reserve Bank of Australia). The competition in the industry is based on pricing but also service standards.
c.The characteristics of a monopolistically competitive market are as follows (Mankiw, 2014).
- The number of buyers and sellers present in the market is large.
- There are low barriers to firm entry and exit.
- There is differentiation of product quality.
- The customers lack perfect knowledge which is observed in case of perfect competition.
- Advertisement is a key aspect of this market as product differentiation is practiced.
Three industries where may monopolistically competitive market be observed in Australia are as indicated below (Mankiw & Taylor, 2011).
Coffee industry – There are a host of coffee cafes and the entry and exit barriers are minimal. Besides, there is product differentiation also in terms of product also. Further, in order to attract customers, advertisement is significant.
Hairdressers – There are a host of service providers and customers. Entry and exit barriers are minimal. Also, there is differentiation of services offered. Further, in order to attract customers, advertisement is significant.
Fast food industry - There are a host of fast food outlets and the entry and exit barriers are minimal. Besides, there is product differentiation also in terms of product also. Further, in order to attract customers, advertisement is significant.
d.The various conditions for natural duopoly are as follows (Krugman & Wells, 2008).
- Large upfront capital expenditure required for setting for enabling infrastructure to provide the relevant product or service.
- Government restriction to entry as government approval may be required.
Consider a natural duopoly which is in equilibrium as indicated in the graph below.
In the given case, if a third player would enter the market, then the equilibrium of the market would be disturbed as there would be an increase in the production and hence there would be a reduction in the price which would be partly done in response to the competition. As a result, the MR curve would shift to a point where all the firms in the industry would be making losses. While the established firm would be able to sustain losses, it would be difficult for a new player and eventually a duopoly would be again restored (Nicholson and Snyder, 2011).
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Besanko, D. & Braeutigam, R. (2010).Microeconomics (4thed.), New York: John Wiley & Sons.
Krugman, P. & Wells, R. (2008) Microeconomics (2nded.), London: Worth Publishers.
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C. (2011).Fundamentals of Microeconomics (11thed.), New York:
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