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Economists have for a long time studied and discussed the various effects of government subsidies and government support for specific industries and markets. In fact, in many colleges and universities, there are specific courses that are dedicated to the effects of public policy to both private and public firms as well as the overall market in which these firms operate in. These economic concepts, in turn, help policymakers make sense of the causes and effects of various incentives that are driven by government interventions to the market.
However, as we shall soon discover in the discussion in our paper, even the science and economics have conflicting theories regarding such public incentives and support to industries. In fact, over the decades in the development of public policy and micro economic choice, steps have been made so much so that various domino effects work experience. However, this does not mean that any theoretical or conceptual model could not be applied to real world situations even various market imperfections where in traditional economic theories break down.
In fact, even with the assumption of perfect markets — which is a basic impossibility especially in today’s complicated economy and arena of public policy — economics may be able to predict and forecast various results from decisions that are made by the government with respect to incentives and disincentives within industry. In this paper, we shall be looking at the effects of the United States sugar subsidy policy.
In order to do this, we would be using the three basic analytical tools that come from the larger body of micro economic analysis. The first is by using a comparative static model of incentives within a market by government intervention. The second analytical framework that we shall use is another comparative static model with regards to the median voter theorem and its effects to public choice in sugar subsidy policy in the country.
The third framework which we shall be using is that which has been developed by recent Nobel Prize in economics winners in the analysis of government support and its overall effect in the arena of globalization and international trade. By using these analytical frameworks, we hopefully could be able to capture the economic effects of the United States sugar subsidy policy not only in the industry itself but also in the country — as well as the consumers living in the country — as well. Comparative Static Analysis of the United States Sugar Subsidy Policy in an Economic Market
The first analysis that the papers shall be using is a comparative static analysis of a subsidy granted by the United States government to the sugar industry in the country. A comparative static analysis is simply an analysis of an economic incentive — or even a disincentive — while holding all other things constant. In the real world, a comparative static analysis may be difficult to implement and make sense of especially because variables affecting the market, the industries, or even individual firms, interact with each other all the time.
However, if we are to integrate all the variables involved — perhaps using econometric estimation and lean your regression analysis in order to indicate these variables — we still would not be able to segregate the effects of a single factor — in this case a policy which gives the sugar industry subsidy — the overall economy. The discipline of economics usually makes use of such “all other things held constant” rule in order to make the analytical framework more clear and the analysis more concise by segregating just one variable.
The analysis of the sugar subsidy policy uses a micro economic model of the firm. In this micro economic model, we assume a horizontal demand curve — because the firm is a price taker — and imposition of the marginal cost, the average cost, the average variable cost, and the total cost curve. In such a situation, sugar firms would choose to produce at that point where in price equals marginal revenue equals marginal cost.
In such a condition, the affect of aggregating all the firms in the sugar industry would give us the traditional perfect market situation downward sloping demand curve upward sloping supply curve. This is a situation where in there is not yet any subsidy which the government had chosen to implement in the sugar industry. However, in the case that the government chooses to give subsidy to the sugar industry, the effect would be to significantly reduce the average cost and total cost curves of the firm by reducing the fixed costs.
In a partial equilibrium model, it would result to the shifting of the supply curve to the right and therefore the ability to produce higher quantities by the firm while at the same time effectively decreasing the price of sugar. This is the approach using traditional analytical frameworks of microeconomics in order to understand the subsidy that is made by the government. In fact, this analysis may be implemented into any kind of industry which is subsidized by the government in order to produce its final output. However, we must remember that this is approach only using an economic model.
In order to understand the applications of such a theory and to prove it, economic researchers have estimated and made various studies to show that this is indeed the case that the curse in real-world events and could have a significant effect even considering all variables into the analysis. Of course, in order for the theory to hold, econometric estimation must also be able to prove that subsidies do in fact affect the supply curve of the industry. This is exactly what has been constituted in the larger body of research regarding government interventions to specific industries.
As early as a study made in 1977 which analyzed the equilibrium effects of United States sugar policy, significant supply curve shifts were estimated by economists after such super policies regarding subsidies had been implemented by the government (Gordon Gemmill, 1977). In fact, as the research noted, although there was only a minor influence on the price that was implemented after subsidies had been injected into this sugar industry, quantities significantly change as a result of the increased supply that was allowed by the subsidy.
Earlier in 1970, there was already indicate that legislative bias for the United States sugar program which involved a high degree of domestic protectionism — which simply means that injection of policy by the government — to sugar producers. However, an interesting thing to note in such study is that not only were the policy recommendations for the domestic sugar industry but also for international and foreign countries sugar industry as well — locations which have comparative advantage in sugar production and which could directly benefit the United States in the long run if such industries were conducted.
This analysis would be integrated into the third concept and discussion of our paper. What is important that this research is pointing out, however, for this section, is that sugar subsidies do indeed increase quantities of sugar producers because of the lowering of costs as a result of the subsidy. In fact, such quantity increase effects are not only segregate into the United States but other countries as well.
In many developing economies, and in economies which are significantly different from the United States, an increase in market subsidy to the sugar industry also increases quantity in those countries, showing that such economic effects are not only segregate into one geographical location and one kind of economy but also to the spectrum of economies of countries as well (Nelson & Panggabean, 1991). In such a partial equilibrium analysis, perhaps the immediate conclusion that could be made is that it is beneficial to consumers as a whole.
Using the framework, it would be obvious that the lowering of price and the lowering of the production cost of sugar in the sugar industry would be beneficial both for sugar farmers as well as the consumers who would be buying sugar. However, a negative effect that a subsidy may make in such a framework is that it could be unfair to those directly competing against the sugar markets. However, such an argument may not be so strong.
The arguments against the subsidy is made by the United States government to the sugar industry could be further developed in the second and third section and analytical framework of the paper. The Median Voter Theorem and Why There Are Sugar Subsidy Policies in the United States An argument that has been developed by economists which goes against recommendations for implementing subsidies on certain industries is the implementation of the median voter theorem. Remember that subsidies are basically policy recommendations that are made by individuals such as lawmakers, legislators, and the greater body of politicians.
According to standard economic theory, these individuals in a representative government are selected by the population through the mechanism of voting. And if we consider the population distribution to be a perfectly normal bell curve, there are individuals in extremes of the issue — in this case not to implement a subsidy and to implement full subsidy — but a larger number of people in the median area of the population distribution. However, the median voter theorem also states that there are discrepancies within the voting situation.
A powerful group which has lobbying power, although would derive less benefit from the summation of all consumers, could be able to conceivably shape electoral results because of such lobbying powers and financial support since they are the ones who have a larger incentive in the choosing of a certain candidate which would eventually approve a sugar subsidy policy. For example, consumers would not give a few dollars each in order to lobby against support for a certain policy, but the sugar producers, who have enough incentives, maybe both lobby themselves to carry out such a vote.
Even though the elected body of government representatives may in fact be the winner of the elections, it is not necessary that they won because they have the largest and best purpose of the consumers into mind. There are literature regarding such topic proving that the median voter theorem indeed does work in society where in there are individual lobbying powers and incentives for groups. In 1991, a study was made on electoral and voting process where there are specific preferences for individuals with larger incentives and the aggregate society.
This study points out that even though there are larger benefits and welfare implications for the whole society if a specific policy is not implemented, having less incentives than those wishing to implement the policy would eventually drive the vote towards those with greater incentives (Caplin & Nalebuff, 1991). Another article published earlier in 1989 presented such a theoretical model in the analysis and determination of the level of Social Security that is provided to individuals. Again, they use the median voter theory in a representative democracy and capital market.
As has been shown, there are more incentives for some individuals to lobby against the policy and even though Social Security increase would benefit the society greater, it was not implemented fully because of such lobbying power of specific sides (Boadway & Wildasin, 1989). Trade Theories and the United States Sugar Subsidy Using standard economic trade theories and frameworks, we could perhaps be able to develop the best argument against the government implementing a specific policy for protection reasons or for any other reasons that are offered in the legislative body.
Instead their trade theory, implementing a protectionist policy — such as the subsidy — would lead to a less efficient comparative advantage situation in the sugar industry in the United States. Although it would definitely be able to provide short run increases in the income of producers, there are much worse effects. The first is that prices would be much higher in the domestic market. A subsidy together with a protectionist policy would make and force consumers to buy sugar at a higher price than that is offered in a global competitive market without such protectionist policies.
If it was the subsidy alone, then it could be perhaps beneficial to the consumers while there are certain losses in the government model. However, usually, and specifically for the United States sugar policy with regards to subsidies, protectionist policies are also implemented. This means that consumers are forced to buy sugar at higher prices in the domestic market than they would otherwise pay if sugar was imported by countries which offer the same goods at lower prices in a perfectly competitive model of trade.
As an overall result, there would be welfare increases for the side of the producer surplus but decreases in the consumer surplus and the government revenues. However, the dominant argument made by past and even some precedent economists is that some industries have to be protected because they do not have comparative advantage to other producers of sugar taking into consideration the implementation of free trade in the world today.
Such arguments for example are the import substitution industrialization that had been put forward by two German economists in the 1960s which says that by protecting domestic industries in the short run, they would be able to catch up to the ventral comparative advantage. In fact, it is not only the United States sugar industry which implemented such policies but domestic agricultural goods all over the world especially in third world and developing countries. At first, this might have seemed like a good idea.
However, eventually, it was found that implementing a specific subsidy to the sugar industry might have long term problematic effects. For example, by implementing such a subsidy, local domestic sugar producers would not have enough incentives in order to improve such sugar production technology. In fact, this has been proven to be the case. In the implementation of local production protection of sugar, less and less farmers were willing to innovate in the productive capacity given that there are even available technologies for such an improvement.
The reason for this is that they are already enjoying lower production costs because of the subsidies. Such a framework eventually results in the shifting of the production frontiers of sugar in other countries while the production function of sugar in the domestic economy remains the same. The lack of incentives is a direct result from the lack of competition in an industry and the result is after a few years — perhaps a decade — productive technologies and capacities by other sugar markets would eventually overtake that of the domestic protected market.
It is in fact already an interesting point that the United States is even implementing such sugar subsidy policies even though past economies and studies have been made regarding its detrimental effect to the long-run profitability of the market and the welfare of producers (Pollitt, 1997). In fact, we do not even need to look so far away for sugar subsidy policies have been implemented in the United States and the historical proof of the infectivity of such subsidy policies have already been well documented and studied by economists and policymakers (Horton, 1970).
Even recently, trade liberalization policies were studied between the United States and the European Union sugar trade industry and were found to have detrimental effects in one market implemented a specific policy on the production of their sugar supply (Won W. Koo, 2002). Conclusion using these three frameworks, we could be able to conclude that by implementing a subsidy in the United States sugar industry, the country may be able to see short-term benefits because of price reduction and the welfare increase of sugar farmers and producers — as low as those involved in the sugar market distribution.
However, in the long run, as our analytical framework and even the practical research in previous literature and references have shown, implementing such a sugar policy is not only inefficient because of the actual background of decision-making through the median voter theorem, but also would be able to hurt the farmers and sugar producers themselves in the long run because of implementing a protection industry and the continuous decrease of comparative advantages as a result of the increase in technology in perfectly competitive markets which have not been subsidized by the government.
To this end, economics teaches us that a subsidy, although helps in the long run producers, would hurt short run government revenues and consumers as well as long-run profitability of sugar markets from all aspects.
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