Wednesday, December 17, 2014

What came first: the egg or the California regulation on cage sizes?

A new regulation is set to take effect in California at the beginning of next year that will force hen houses to allocate significantly more room to each egg-laying chicken. 
Birds, long afforded a minimum of only 67 square inches a piece, will now need roughly 116 square inchesa more than 70 percent increase—if eggs are to be sold in the state. That extra space won't come free of charge, a cost that will almost certainly fall on consumers.
Lets say I have a hen house operation with 10,000 hens.  Prior to the passage of this law, I needed a building to house those hens that was at least 670,000 square inches. In square feet that would be 4,653 sqft.

With the new requirement of 116 sq inches, I would need a building that is 8,066 sqft---73% larger.

I could invest in expanding the building or constructing another, but the number of productive chickens I have would stay the same. More cost (however, only a "fixed cost"), same number of eggs.  I would have to receive a higher price for my eggs and/or cut expenses elsewhere to stay where I was before in terms of making a living.

I could make modifications to my existing building to make the cages bigger but I would have to reduce the number of egg-laying chickens I have by 4,224.  Now instead of 10,000 hens I have 5,776 to lay eggs for me. I would have to receive a higher price and/or cut expenses elsewhere to stay where I was before in terms of making a living.

What is chicken farmer (or is it rancher?) to do?

This is a terrific article with LOTS of opportunities to practice supply and demand and analyze the cost structure of a firm in a competitive business.

"Sugary Drinks" and Dead Weight Loss. Lets go to the graphs.

Many communities around the US  (and some other countries) have passed, or want to pass, a law that places a tax on "Sugary Drinks".  It is believed these types of products contribute to health problems and lost productivity within the economy.

The main argument is the production and consumption of sugary drinks does not explicitly include the tertiary costs to society in terms of treating conditions and diseases associated with these type of products. If we did include this cost, then the price would be higher and the market quantity would be lower.  I am going to use $.50 as the additional cost that is NOT considered in the private market production and consumption of these drinks.  This is known as an "external cost" that is not "internalized" in bringing this good to market.

The intent of the tax is to internalize ALL the costs of producing and consuming sugary drinks--even ones that have NO direct bearing on production and consumption.

Lets go to the graphs and see how this plays out.

Here is the market for "sugary drinks" in equilibrium where we ONLY consider the Private Market Demand (Marginl Private Benefit (MPB)) and Supply (Marginal Private Cost (MPC)) of this class of drink.  Right now the price of sugary drinks is $1.00 and the market quantity is "Qe".

The main policy goal is to DECREASE the market quantity produced and consumed in the marketplace.  Supporters of this policy believe the "Socially Optimal" amount of sugary drinks is LESS than what the market currently produces and consumes (graph below).

At the "Socially Optimal" market quantity, the cost to bring this good to market is $.75 (just go up to the Supply Curve) at Point "B".

However, if we include the $.50 not previously accounted for in production and consumption we see at the Socially Optimal market quantity, the producer would need at least $1.25 in order to supply that amount---Point "C" (look at the next TWO graphs to get this idea).

What is true between Points "B" and "C" is going to be true (certerus paribus) along all other points on Supply Curve "S* (MPC)---Points "A" to "D".

IMPORTANT POINT:  If we connect those new points we will derive a NEW market Supply Curve that now INCLUDES the external cost not previously included of producing sugary drinks.

We label this Supply Curve "S1 (MSC)"---MSC stands for Marginal Social Cost.  This curve includes the private costs of production and consumption AND the SOCIAL COSTS as well. Read that again!

Think of the original Supply Curve as "what is" and the new Supply Curve as "what should be". The difference between the two is the social cost.

The market is now in equilibrium at Point "C" where quantity demanded=quantity supplied---at a higher price ($1.25) and a lower market quantity (Q socially optimal).

The graph below is the same one only a little cleaned up.

Lets now consider Points "A", "D" and "C" and the neat triangle it forms.

Point "A" represents the market price and quantity as it "is". Point "C" represents the market as it "should be" if we internalized the exteranal cost of sugary drinks.  Point "D" represents at the private market quantity what the actual cost of producing each unit of sugary drink is---$1.50 as opposed to $1.00.

Graph below.  This triangle between "A", "B" and "D" represents the area of DEADWEIGHT LOSS (DWL) due to the under-pricing and over-production of these drinks.

In other words, when we include the external costs associated with the production and consumption of this good we can easily see that all the quanitities beween "Qe" and "Q socially optimal" now cost more to supply than consumers are willing to pay.

Prove it to yourself.  Pick any point on the horizontal axis between those to areas.   Go up staight up. You will hit the demand curve at at a lower price than you will hit the supply curve---cost to produce is greater than the price willing to be paid.

INEFFICIENT use of resources!

These units would not be produced if all costs associated with the good were included in the price paid and received!

Remember: The market IS at Point "A".  It is suggested that it SHOULD BE at Point "C". The difference is Dead Weight Loss.

Sorry for the repetition at times. I attempted to make this a step by step as possiblefor the beginning learner.  It can be a difficult concept to explain and learn in AP Microeconomics.

But is is a necessary one.  Guaranteed to be on the AP Test!

Let me know if you have any questions or can point out where I might have gone wrong.  Constructive criticism is always welcome.

The Russian Ruble (Rouble) turns to rubble. Apple Products edition.

This snapshot of the Russian Ruble (you see it spelled "Rouble" sometimes) value relative to the US dollar is from today's Bloomberg website:

Right now, the institutional market price (different (lower) than the market price we would pay) is $1.00US will exchange for 65.7746 Russian Rubles.

One year ago (look in red circled area) $1.00US exchanged for 32.4834 Rubles.

This means the US dollar can exchange for approx 33 more Rubles than it did one year ago. The dollar "buys" more Rubles than it did before, hence we can say the US dollar has APPRECIATED relative to the Ruble by about 102%  (rounded).

Exchange rates are reciprocal to each other.  If $1.00US exchanges for 65.7746 Rubles then 1.00 Ruble will exchange for 1.5 US cents

One year ago, Russians could exchange a Ruble and get 3.1 US cents. The Ruble "buys" fewer cents than it did before, hence we can say the Ruble has DEPRCIATED relative to the Dollar by 51% (rounded).

This has major consequences for US businesses that do business in Russia and want to expatriate profits or investments back into US dollars.

Simple example.  A year ago, a  business that earned 1,000 Rubles in profits could exchange those Rubles and receive $30.78US (1,000 Rubles/32.4834 Rubles per Dollar).

Today 1,000 Rubles would exchange for $15.20US (1,000Rubles/65.7745 Rubles per dollar).

Exchange rates matter because they can change the relative value of goods and services across borders WITHOUT changing the properties of those goods and services.

While writing this post, I checked the BBC and coincidently they have this story:

Rouble turmoil leads to Apple halting online sales in Russia

The company stopped sales of its iPhones, iPads and other products in the country after a day in which the currency went into free-fall. 
The rouble has lost more than 20% this week, despite a dramatic decision to raise interest rates from 10.5% to 17%. 
By afternoon trade the rouble was flat with one dollar buying 68 roubles.US Dollar v Russian Rouble 
$1 buyschange%
Its all time low, set on Wednesday, saw one dollar buying as many as 79 roubles. 
Apple last month increased its prices in Russia by 20% after the weakening rouble left products in the country cheaper than in the rest of Europe.
Timely! I hope this helps you understand exchange rates a little better.
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