2. OBJECTIVES
In this chapter we will extend the analysis of price policies to multiple markets.
Establish the cross-price elasticity of the two market model.
How the change in price in one particular market affects the other one.
Broader concept of price policies with graphical analysis will be displayed.
Use of multiple supply and demand functions to see the empirical evidences
and its calibrations accordingly.
Impacts on political variables such as foreign exchange, government budget
and welfare.
Lastly the calibrations and the excel simulation of this entire chapter
accordingly.
3. Interdependencies between markets
We see that in the diagram that there is two
commodity market in two different situations.
Protectionist price policy is applied to market 1
in an import situation
2nd market is in equilibrium at autarky with no
intervention.
Price in market 1 goes up due to price
protection and the second market is affected
accordingly. As a result it provides an incentive
to use fewer resources for product 2 and
therefore a leftward shift in the supply curve in
this market
As price increase in market 1 demand in market
2 will go up as a result a rightward shift in the
demand curve in the 2nd market
Similarly price change in market 2 also affects
market 1 .
4. Cross price elasticity
In order to understand the
interdependencies between markets, we
have to use the cross-price elasticity.
Here the mathematical formula shows or
explains that how the supply of the first
product depends on its price and the price
of the second product.
We can understand the relationship
between both the products through its
outcome or solution.
5. Iso-elastic supply and demand functions
The equations are being used to formulate
the two market model.
On this basis we can derive the political
variables for both markets.
In the multi-market model it applies that all
supply and demand functions need to
calibrated i.e. relevant constants for the
model equations have to be determined.
The equation is the supply constant of the
first product.
Tells us that with the extension of the model
from one market to two market, the
calculation of the constant changes because
the quantity supplied is also explained via
the price relation between the two markets.
6. Consequences of an increased world market price of one
product for foreign exchange revenue in interdependent
markets
We will see how price policy affect relevant political
objectives in both markets.
Consequences of an increased world market price
of one product for foreign exchange on two
markets, assuming free trade in both markets.
Since price of the second market is constant, so
therefore there will be no shifts in market 1.
Increased world price leads to increased foreign
expenditure in the market.
Shifts in the second market occur due to world
price increase in the first market.
Result depends on cross-price effect and on price
policies.
If autarky takes place in the second market then it
wont be affected by the foreign exchange since it
has no function during an autarky situation.
7. Budget functions in two markets with an increasing protectionist price
policy in the first market and a given protectionist policy in the second
market
The graph first shows the impact of an
increasing protectionist price policy on an
import market without any cross-price
effects.
Considering cross-price will lead with
respect to a protected export market,
increased domestic price in the first (import)
market will then lead to additional budget
expenditure in the export market.
As a result we get the budget function B1
for the first market under a given price
policy assumptions (constant P2)
Similarly we obtain the budget function B2
for the second market in relation to P1.
Finally the aggregated budget function = B1
+ B2
