Industry Analysis for Soft Drink Market of Autarka

1 Introduction
Decision-makers in government rely on the advice of experts when formulating policy or discharging their statutory responsibilities. In this assignment you will take the role of an expert economist, employed by a government department. An expert economist’s role in
the government decision-making process is two-fold:
• Analysis: Economists use their specialist knowledge and skills to analyse the likely outcomes of policy alternatives. They then evaluate these outcomes against the government’s objectives and statutory obligations.
• Communication: Economists communicate their findings to ministers and senior public servants, who, in many instances, do not share their specialised knowledge.

This assignment will assess your aptitudes in both of these domains. You are to conduct an industry analysis based on the scenario detailed in section 2. Then use your analysis as the basis for a brief (a short report) summarising your recommendations and the associated rationale.

1.1 Formatting requirements
Your assignment must be typed using Microsoft Word, or a similar word processor. Both parts of the assignment should be included in the same document with the brief placed before the industry analysis. The document should have a professional appearance, appropriate to a government workplace. Format your assignment as follows:
• Use A4 sized paper with all margins at least 2.5cm.
• Body text to be 12pt and black. (There is no minimum line spacing.)
• All pages to be numbered.
• DO NOT include a cover sheet or table of contents.

1.2 Grading
There are a total 100 marks available in this assignment (50 marks for the industry analysis and 50 marks for the brief), and the assignment contributes 40% of your grade for Price Theory. The marks allocated to each step of the industry analysis are detailed in section 3. The marking criteria for the brief can be found in the rubric detailed in section 5.

2 Scenario
The island nation of Autarka is growing concerned over the amount of rubbish accumulating in the waters off its coastline. This pollution is harming marine life, damaging fish stocks, and washing up on tourist beaches. Research by the National University of Autarka has determined that a significant component of the solid waste is the single-use plastic bottles used by soft-drink manufacturers.

Currently, soft drink manufacturers in Autarka pay a tax of $0.40 on each bottle of drink they sell. The revenue from the tax is used to fund the cleaning of roads and public spaces. The scientific community is lobbying the government to increase the tax to $1.00 a bottle. The scientists suggest that any additional revenue could be used to fund programs to remove rubbish from the coastal waters.

Grading

There are two producers of soft drinks in Autarka: Bubbles PLC and CarbonCorp.
The two companies do not face competition from imports as the cost of transporting soft drinks into Autarka is prohibitively high. Moreover, there are no cost effective alternatives to single use plastic containers. The two companies have made submissions to the government opposing the proposed tax increase, which they claim will harm consumers.

2.1 Your task
The Minister for the Environment has instructed you to determine the likely impact of the proposed tax increase on the market for soft drinks, and to recommend whether or not the government should implement the proposed tax increase. Your recommendation should take into account
• the impact on government revenues from the bottle tax,

• the impact on consumers, and
• the impact on the environment.

Note that competition policy prevents the government from imposing any other form of market regulation, including price controls.

2.2 Industry structure
Research into the soft drink market indicates that the two firms compete by selecting quantities (Cournot competition). Soft drinks are regarded as a homogeneous good by consumers, and inverse demand in the market is estimated to be, P = 3.6 − Q 100,000, where P represents the price of a bottle of soft drink, and Q is the total number of bottles sold per year.

At present soft drinks sell for $2.95 a bottle. Bubbles PLC produces 40,000 bottles per year, paying $16,000 in bottle tax. CarbonCorp produces 25,000 bottles and pays $10,000. It is estimated that it costs Bubbles PLC $2.15 per bottle of soft drink produced, while producing a bottle of soft drink cost CarbonCorp $2.30. The fixed costs of production can be neglected in this analysis.

3 Industry analysis
For your industry analysis you must complete each of the steps detailed below. The required analysis draws on content covered in lectures 6–10 (primarily lecture 9). When completing the steps you must:
• Type all equations using the ‘Insert Equation’ function (or equivalent).
• Show all of your working.
• Include sufficient written description for the reader to follow your process. (Use the worked solutions in the study guide as an indication of the required level of detail.)
• Use appropriate economic terminology.
Your audience for the industry analysis is other expert economists who may be required to review your work. There is no page limit for the Industry Analysis.

3.1 Required steps
When completing the industry analysis you should assume that firms are engaged in Cournot Competition.
Step 1: Using the information provided in the scenario, derive a total cost function for each soft drink producer for the case in which the government levies a tax of $1.00 per bottle. Use QB to denote the quantity produced by Bubbles PLC, and QC to denote the quantity produced by CarbonCorp. Note that a firm’s marginal cost will be the sum of its cost of producing a bottle, and the tax that it must pay to the government on each bottle sold. (5 marks)

Step 2: Using the cost functions from step 1, derive a profit function for each firm. (10 marks)
Step 3: Derive each firm’s best-response function. (15 marks)
Step 4: Solve the best-response functions simultaneously to find the equilibrium quantities for each firm. (10 marks)
Step 5: Find the equilibrium price and tax revenue. (10 marks)