4.8 Elasticity and Policy
Maxwell Nicholson
Learning Objectives
By the end of this section, you will be able to:
- Describe how elasticity impacts deadweight loss
- Predict who will bear a greater burden from a policy based on relative elasticity
- Understand the difference between elasticity and relative elasticity
Buttery Elasticity
For many years the U.S dairy market was inelastic, but times have changed, and dairy demand is not as inelastic as it once was, says Sara Dorland, managing partner with Seattle-based Ceres Dairy Risk Management. Higher prices can have a direct effect on the consumption of dairy products.
“Historically a good amount of our product went to the U.S. government, which kept prices stable, especially for skim products,” says Dorland, who holds an MBA in business and finance. “Therefore, once every few years, butter or cheese would have a run-up and fall back down. As a result, milk and dairy product prices played within a rather tight range, a factor that contributed to our belief that demand was rather inelastic. Today, that is not the case as the government is no longer one of our best customers.”
This means that the quantity demanded in the dairy market is becoming more responsive to changes in price in the U.S. Compare this to the Canadian market and you will see a very different story. Due to a supply management system that is operated by farmer-run provincial marketing boards, the Canadian dairy market remains very inelastic as high tariffs and quota requirements restrict market entry. This limits the number of producers in the market and reduces consumer choice, causing a very inelastic demand curve like we saw with the textbook industry.
Relative elasticity is important when looking at how markets respond to a price change. Two of the policies we looked at, taxes and price controls, caused deadweight loss and redistribution among market players. As we will illustrate in this chapter, the relative elasticity of a market will determine which party bears a greater burden of tax policy.
Read the rest of the story here.
https://www.vice.com/en_ca/article/blame-canadas-dairy-cartel-for-our-expensive-milk-and-cheese-867
http://www.theglobeandmail.com/news/politics/canadas-dairy-industry-is-a-rich-closed-club/article25124114/
http://www.agweb.com/article/why-dairy-demand-has-become-more-elastic-naa-catherine-merlo/
In Topic 4.3, we discussed some of the many factors that cause supply and demand to be relatively more or less elastic. Now, we will explore the impact that this has on relative policy burden and deadweight loss.
Elasticity and Deadweight Loss
Let’s continue to look at the dairy market. How would a $2.25 per unit tax on the American and Canadian dairy market impact different market players? In our analysis, let’s make the assumption that the Canadian and American markets both start with an equilibrium price of $4/jug and equilibrium quantity of 8 million. This is obviously not realistic, but it allows us to ana