“Analysis of Export Subsidies in the Steel Industry: Impact on Prices, Production, and Economic Surplus”

QUESTION

7. Steel Industry

Consider a small country that exports steel. Suppose the following graph depicts the domestic demand and supply for steel in this country. One of the two price lines represents the world price of steel.

Use the following graph to help you answer the questions below. You will not be graded on any changes made to this graph.

TrianglePolygon010020030040050060070080090010001009080706050403020100Price of Steel (Dollars per ton)Quantity of Steel (Tons)DemandSupplyP1P2

Because this country exports steel, the world price is represented by    .

Suppose that a “pro-trade” government decides to subsidize the export of steel by paying $10 for each ton sold abroad.

With this export subsidy, the price paid by domestic consumers is

per ton, and the price received by domestic producers is

per ton. The quantity of steel consumed by domestic consumers    , the quantity of steel produced by domestic producers    , and the quantity of steel exported    .

True or False: With the export subsidy, domestic producers will not sell any steel to domestic consumers.

True

False

Under the export subsidy, consumer surplus is

and producer surplus is

. Government revenue    by

. As a result, total surplus    .

ANSWER

In the context of the steel industry in a small exporting country, we have a graph that represents the domestic demand and supply for steel. The two price lines on the graph represent the world price of steel (P1) and a potentially higher domestic price (P2).

Because this country exports steel, the world price is represented by P1.

Now, let’s consider the impact of a pro-trade government’s decision to subsidize the export of steel by paying $10 for each ton sold abroad. This subsidy aims to encourage domestic producers to sell more steel to international markets.

With the export subsidy in place:

1. The price paid by domestic consumers (P2) is lower than the world price (P1) by the amount of the subsidy. So, the price paid by domestic consumers is P2 – $10 per ton.

2. The price received by domestic producers (P2) remains the same, as the subsidy applies only to exports. Therefore, the price received by domestic producers is P2 per ton.

3. The quantity of steel consumed by domestic consumers increases because of the lower price. This increase in quantity consumed results in a higher quantity of steel consumed by domestic consumers.

4. The quantity of steel produced by domestic producers also increases because the subsidy incentivizes them to produce more steel for export.

5. The quantity of steel exported increases significantly because the subsidy makes it more profitable for domestic producers to sell steel in international markets.

False: With the export subsidy, domestic producers will not stop selling steel to domestic consumers. They will continue to supply the domestic market at the price of P2 per ton.

Now, let’s discuss the economic impacts of the export subsidy:

Consumer surplus increases because domestic consumers pay a lower price than they would without the subsidy. The lower price leads to higher consumer surplus.

Producer surplus also increases because domestic producers receive the same price (P2) but benefit from the export subsidy, resulting in higher producer surplus.

Government revenue is generated through the export subsidy. The government pays $10 for each ton of steel exported. The revenue collected by the government depends on the quantity of steel exported.

As a result of the export subsidy, total surplus increases. This is because both consumer and producer surplus increase, and the government revenue generated from the subsidy adds to the overall economic surplus.

In conclusion, the export subsidy implemented by the pro-trade government leads to lower prices for domestic consumers, increased production and exports of steel, higher consumer and producer surpluses, government revenue, and an overall increase in total surplus.