Drastic hike of cigarettes

     

The articles from http://thestar.com.my/news/story.asp?file=/2012/9/14/focus/12024429&sec=focus. 

           

            Cigarettes have been one of the country’s biggest incomes. The tax imposed on a pack of cigarette, which is 25% per pack according to Passport (2011) has obviously given the country huge revenue since the smokers in Malaysia be seemed not being effected in term of buying behavior despite of the high increase in price of a pack of cigarette. As referred to the article, the author was pointing out how this high excise tax imposed on the cigarettes can lead to the light up of illegal trading of cigarettes, or in the other word, black market. How does this actually happen?  

           

            The total number of smokers in Malaysia is keep increasing with the price of cigarettes. This shows that the demand of cigarettes can be classified as an inelastic demand. No matter how much the price change, the quantity demanded will not change significantly. The consumers’ behavior does not change as they keep buying cigarettes no matter how high the price is, as agreeing the results from Global Adult Tobacco Survey (GATS) which shows that there is no decreased in the consumption of cigarettes.

            Below is the basic graph illustrating the basic concept of demand and supply:

            The blue curve represents the demand of the good in the market. The demand curve is down slopping and shows the negative relationship between price and quantity. As the price goes up, the quantity goes down. People are willing to buy more at a lower price, as they will gain more benefit from a lower price of good. The red curve represents the supply curve. Supply curve has a positive relationship between the price and quantity. As the price goes up, the quantity also goes up. Of course, as supplier, the higher the price, the more they are willing to supply as more profit they will gain. The conflict between the supplier and consumer is overcome with the existing of equilibrium, which is at the point where by the demand curve meet the supply curve. At this point, the supplier agree to sell their product at that particular quantity with the particular price, and the same goes to he consumer, where they are willing to pay at the same price. Therefore, at this point, both consumer and supplier are happy that they both enjoy the same benefit. This concept is applied with the consideration that the good is a normal good.

           

            Next, moving to a more complex diagram:

            The diagram above illustrate on the situation when tax is imposed to the good, and in this case, cigarettes. The original equilibrium price and quantity is at P1 and Q1 respectively, where both consumer and supplier agree with the price to sell and buy. However, when government imposes tax on the good, the supply curve will shift to the left, to the new supply curve, S+tax. With the tax imposes by the government, the consumer price will rise to P2 and in the same time, the supplier price will fall to P. Both consumer and supplier has to pay for the tax for each unit of the cigarettes sold. Consumer surplus has also shrink to the above of P2 line and while the supplier surplus shrink to below the P line. In this situation, part of the consumer surplus and part of the supplier surplus, which the middle square area goes to the government as the tax revenue to the government. Meanwhile, the orange square area is a deadweight loss.

           

            However, in the case of cigarette in Malaysia, the demand cigarette in Malaysia is to be said as inelastic. People keep buying cigarette no matter how high the price of a pack of cigarettes is. Every now and then, the smokers will complain about the increases of tax on cigarettes but at the end of the day, they will still keep buying them. In the case of an inelastic product, the consumer has to bear most of the amount of tax imposed on the good. This is because the supplier realize that how much price the product is, people will keep on buying, thus they take the advantage to release all the cost of tax to the customers. That is why the price of cigarette is so expensive in Malaysia.

            Now, this is why after all, black market arises to become an option. In the black market, the cigarettes are illegally brought into the country or in the other word, smuggling. These cigarettes are definitely free from any tax imposed by the government. In result, the price of the cigarettes becomes lesser than those cigarettes in the legal market. Up to this extend, this is where the issue, which questioned whether the tax imposed on the cigarette, is bringing more benefit or loss. Indeed, the amount of consumption of cigarettes in Malaysia shows a decrease of amount. However, as has been stated in the beginning, the survey done is contradicted. So, where does these smokers get the cigarettes? The answer is obviously through the black market. When this happen, the government also needs to bear with another expenses, the cost of preventing this crime from widen through out the country. At the end, the tax revenue that government receive from the selling of cigarettes going back to the prevention of black market of the cigarette.

Petrol and Subsidy: Benefit or loss

  Before going any further from the article achieved from http://www.themalaysianinsider.com/malaysia/article/minister-ron95-petrol-subsidy-up-10-sen-pump-price-unchanged , let see how does the basic concept of demand and supply is. This graph below will give a clearer picture of the concept:

            The blue curve is representing the demand of a good in a society, and in this case, the demand of petroleum. The graph shows clearly the negative relationship of the demand curve between the quantity and price. It is logic, people would like to buy more when the price is lower as it will give the consumer a bigger benefit. The other curve, the red one is the supply curve. In contrast to the demand curve, the supply curve shows a positive relationship of supply between the price and quantity. As a supplier, the higher the price, the bigger the quantity that they are willing to sell. Why? Because it will definitely bring them a bigger return! However, the market doesn’t work in any way that will benefit only a certain party. Thus, the market equilibrium exists. Market equilibrium is where the demand curve crosses the supply curve. At an equilibrium point, both party are happy with the price and quantity of the good.

            Let us go back to the main point, the subsidy given by the government. Since many years ago, the government has given the subsidy on the petroleum price for the Malaysian. The intention of giving the subsidy is to lessen the burden of the Malaysian. So, how does the subsidy given by the government effect the market of petroleum? Subsidy on the petroleum will cause a fall in price and eventually shift the supply curve to the right.

As illustrated in the diagram above, the supply curve will shift to the right, from S1 to the new curve, S2. There are a few situations happen in result of the shifting of the supply curve. Firstly, price of the petroleum will decrease from the original price of P1 to a new price at P2. The subsidy itself is meant to reduce the people’s burden, so of course the price will decrease. Other than that, the increase in supply also happens. The supplier will definitely eager to produce more, as the subsidy will reduce their cost of production. From a supply at Q1, the new quantity will change to Q2.

Nonetheless, the effect of government giving the subsidies does not stop there. Subsidy will eventually increase the marginal social cost of the production without the supplier realize at the beginning. The decrease in price and decrease in cost at the beginning will make the supplier of be very much eager in supplying petroleum. At this point, the misallocation of resources will occur. The producer will start to use all the sources available to produce the product and the used of inefficient resources will occur. The used of these inefficient resources increase the marginal social cost the product. From the graph, the total amount of this increase of marginal social cost can be calculated from the area between P2, P3 and the demand curve. This rises in marginal cost can be seen as a social welfare loss. This cost can actually be used for a more productive purposes or reduce the government spending. Besides that, overproduction will also occur in this situation. This over production will definitely lead to wastage of production.

The subsidy given by the government is again to lessen the burden of the people. However, this subsidy seems to be very unfair as those people who earn a very big salary per month are also enjoying the money from the government. On top of that, the subsidy given by the government has attracted the vehicles from the neighbor country to come into Malaysia just to pump in petrol near the borderline of Malaysia and the neighbor country. In result, the government money that should be enjoyed by the Malaysian is being brought into the other country. As a cost to this situation, the authorities in Malaysia are forced to do a regular check out on the foreign vehicles in the country. They instead should have done a better job to ensure a better life of the Malaysian such as the prevention of drug addict and robbery. Time consumed to look after this foreign car in Malaysia has taken the time for the other major crime prevention.

Foreign cars pump in petrol RON95 in Malaysia even though it is clearly stated at the petrol station that  foreign cars is not allowed to do so.

Other than that, this subsidy given by the government is, yes, to lessen the society’s burden. But how fair and how efficient has this noble deed contribute to the society? The subsidy is given to all the Malaysian, which mean people from level of income enjoy it. It seems to be unfair that those people who drive Lamborghini, BMW, Mercedes and Ferrari also enjoy the same subsidy as those who drive saga, kancil or myvi. If the government actually really wants to help the needy, they can use the money used to pay for the subsidy to directly help them, with referring to their income level and a thoroughly checked family background. The money can also be used to improve the public affair such as increasing the public hospital. For the rich people, if they can afford to pay for private hospital that is way much expensive than the public hospital, why should they enjoy the subsidy, which is a t the first place to help the poor!

As from the article too, we know that the global price of petrol has gone up but the government has made us to pay the same price. What does this has supposed to mean? The government is paying even more money for the subsidy! The government really should stop paying out a lot of money for this and instead spend them on the social needs such as better education and electricity in the remote area.

Apart from that, as we concern today, the mother nature is suffering from the excessive pollution and in which, the carbon monoxide gas from the vehicles is one of the major factor. More and more people can afford to drive their own car and making the public transport not an option. If the government does not impose subsidy on petrol, the price will be very high that is pretty sure to change people’s option. More people will opt for public transportation than driving own car, which will definitely decrease their spending. And in this case too, the money that the government pays for the subsidies can be used to make lots of improvement to our current condition of public transportation. This will not only help to preserve the nature by decreasing the pollution, but also help the society as a whole.

               

Time to increase tax on cigarettes

In the one of the articles in the StarOnline that entitled “time to increase tax on cigarettes” clearly can be explained that government would like to increase the tax that has been imposed to the cigarettes. (http://thestar.com.my/news/story.asp?file=/2012/9/21/focus/12058559&sec=focus). This is what basically been told in the article. It can be explained widely in economic view.

When the government has imposed tax on the cigarettes, the price of cigarettes will be definitely increases. However, as the price of cigarettes increases, there will be no effect on buyers and suppliers, as they would demand for the product as usual or even will be more increases. In general, when a person starts to smoke cigarette regularly, it is hard for him/her to stop from smoking a cigarette even for a day as it is one of his/her addiction. This situation will let the price elasticity of demand to be a perfectly inelastic demand. This means that the price elasticity of demand will be equal to zero, where there will be no effect on buyers and supplier although the price changes. This can be explained through a graph:- 

                In the graph 2.1, it shows how the graph of perfectly inelastic demand looks like, where the demand curve is vertical. It explained that the demand is not changing although the price of cigarettes which at first was RM 10 has changed to RM 20 when the government has imposed the tax on the cigarette. This is shows how concern the government towards Malaysian as the increase the tax that have been imposed on cigarette previously. However, it does not mean the government expectation of reducing the cigarette consumers or smokers when the tax on cigarette being increase. This is because of they are addicted to the cigarette which cannot let them leave their daily routine of smoking the cigarettes in a very short time of period.

            Next, the article can also be explained in the exposure of tax incidence which the concept is more likely to elasticity. There are three types of tax incidence. When the government imposed tax on the cigarette, there will be three ways of paying the taxes. First, the entire tax paid by buyers. Second, the entire tax paid by sellers or the tax is paid by both buyers and sellers. However, in this case, when the government imposed the tax on cigarette, the suppliers would take advantages on it by imposing the entire tax on the buyers. It is because of the demand for the cigarettes is inelastic which does not give any effect to the buyers to purchase the cigarettes even though the price of cigarettes is increase due to the tax imposed by the government. This can be explained through the graph below:-

 In the graph 2.2, it shows how the perfectly inelastic demand graph acts towards the buyers that need to pay the entire tax. The demand curve is vertical while the supply curve shifting to the left when the price of the cigarettes has been added with the tax. It dedicates that the buyers need to pay the tax as the price of cigarette raises when the supply curve shifted to the left. This is a big opportunity to the supplier when they imposed the tax to the buyers as the suppliers are not facing the loss but they will be gaining more profit as they are no paying tax on the cigarette but the buyers do. Thus, there is not a big issue for them if the government decided to increase the taxes on cigarettes in Malaysia as the entire tax is still pay by the buyers. This is one of the types of tax incidence occur which benefits the sellers since the demand of the cigarette are not changed even though the price is increases with the tax.

 That is for the elasticity of demand. There is one incidence will occur when the entire tax is paid by buyers which is relates to the elasticity of supply. When the buyers paid the entire tax that imposed by government, there will be a perfectly elastic supply. This can be explained through a graph below:-

 The graph 2.3 and graph 2.2 are having different looks. However, it gives the same meaning which both having the same concept. In graph 2.3, the supply is having the perfectly elastic while in graph 2.2; the demand is having the perfectly inelastic. The graph above explained that when the government imposed tax on the products, the vertical supply curve will move upwards and the movement along the demand curve will movement upwards too. This changes show that consumers pay the entire burden of the tax. The law of demand also can be applied in this graph where the price is increases due to the taxes, the quantity demanded will decreases from 200 to 100 units. Thus, the explanation above shows that the elasticity of supply on cigarette is perfectly elastic.

In conclusion, when the tax is imposed on cigarettes by government, it does not affect the demand of the cigarette as people are willing to buy the cigarette at any price due to their smoking addiction. This will definitely affect the elasticity of demand to be perfectly inelastic while the elasticity of supply will definitely be the perfectly elastic. As a result, the taxes that government imposed to the cigarette will be paid by the buyers.   

McDonald's to drop price by 6-15% as sales growth plummets

          

According to the article by Ratna Bhushan, the McDonalds which supplied food product have reducing the price in India by 6% to 15%. (http://articles.economictimes.indiatimes.com/2012-07-23/news/32804614_1_food-price-inflation-drop-prices-price-rationalisation). This situation will let the demand for McDonalds product increases as the price of the products has decreased. In the law of demand said, when the price changes, it will affect the movement along the curve only. For instance, the article shows the price is going down which will affect the movement along the curve to be downwards. This can be shown by the graph below:-

Graph 1.1 shows that the graph of law of demand which stated price at the vertical line while the quantity demanded at the horizontal line. The graph shows the inverse relationship between price and quantity demanded. It means that when the price higher, the quantity demanded will be decrease or vice versa. It can prove through this graph where the point A is moving downwards along the demand curve to the point B since the price of McD fall from 15% to 6%. It indicates that the quantity demanded will be increase when the point A moved to the point B as the price is decreasing.

Besides the law of demand, the article can be analysing through the change of demand. When some influence on buying plans other than price of the products changes, there will be a change in demand for that good. In another words, there will be a new demand curve if the determinants of demand other than price of the goods change. Those determinants occurred would affect the demand to be shifted right or left. When the demand increases, the demand curve will shift to the rightward while the demand decreases, the demand curve will move to the leftward.

In this article, there are few of determinants for the McDonalds products that can be determined. The assumption can be made by the prices of related goods which the substitute goods. A substitute defined as a good that can be used in place of another good. For instance, McDonalds have their substitute products which are Pizza Hut or KFC in India. These prices of related goods can be explained clearly based on the graph below:- 

Based on the graph 1.2, it shows the change in demand which affect the demand curve to be shifted. For instance, Pizza Hut is having the higher price which makes the quantity demanded of the pizza to be decrease. This situation would let the consumer go for the substitute products which is McDonalds that have cheaper price than the Pizza Hut. Thus, the demand for the McDonalds would automatically be higher since people are looking for McDonalds right now. This can be seen clearly in the graph above where the demand curve (D₀) is shifting to the rightwards which create a new demand curve (D₁). It can be conclude that, when the price of product increases, the quantity demanded will be decreases while the demand of substitute products will be increases.

            Besides that, the phenomenon happened in the article will affect the market equilibrium of McDonalds products. Basically when the price of substitute products of McDonalds, Pizza Hut is increases, the quantity demanded of McDonalds will be decreases which make the demand curve of McDonalds change since people are looking for McDonalds than Pizza Hut. However, the changes of demand curve will not affect the supply curve of the McDonalds products to be shifted rightwards or leftwards. Therefore, the point of market equilibrium will change. This can be seen in the graph below:-

 In this graph above, graph 1.3 it shows the point of market equilibrium for McDonalds has changed due to the demand curve have shifted to the right. Market equilibrium can be achieved as both consumers and suppliers are willing to buy and sell the McDonalds product at that equilibrium price and equilibrium quantity. The new market equilibrium in the graph shows that the demand has increases which imply that supplier to produce more McDonald’s product and consumer willing to consume more McDonalds than previous. This indicates the equilibrium price rises and the equilibrium quantity increases. That is how the graph of the market equilibrium works when the demand curve has shifted to the rightwards while there is no change in supply.

There will be another market equilibrium graph when the price falls, and the quantity demanded increases which affect the movement along the curve. Generally, according to the law of demand, as the price falls, the quantity demanded will increases which can be applied in the McDonalds products. This can be explained further in the graph 1.4 where the point D₀ move downward along the curve to the point D₁ since the price of McDonalds decreased from 15% to 6%. Therefore, it builds new market equilibrium at the point of D₁. When the quantity of demanded increases, it also will affect the supply curve to be shifted rightwards in order to achieve the new market equilibrium. As can be seen in the graph, the surplus at the pink shaded region does occur when the original point D₀ less than the point S. The surplus happened when the supply more than demand (S > D). 

           Next, the phenomenon happened to the McDonalds products can be analysed by their elasticity itself. Elasticity is a measure of the people responsiveness of people to changes in economic variables. When the price of McDonalds products falls, the quantity demanded will increase and the total revenue will definitely increases. This can be seen in graph 1.5, as time goes by, when the price of McDonalds keep decreases, the quantity demanded will be decreases. As a result, the demand curve will be downwards sloping. Thus, the demand is elastic. Besides that, there are other determinants of elasticity that can be applied in the McDonald’s products. For instance, the McDonald’s can be assumed as the luxuries as we do not need to depend on the McDonalds products. In other words, the McDonalds products are an elastic demand.

        Therefore, when the price of McDonald’s products falls, it will affect the demand and supply. Besides that, the elasticity of McDonalds also will be affected.

          

Cure for unemployment: increasing minimum wage?

According to an article by Jagdev Singh Sidhu on 3^rd May 2012  (http://biz.thestar.com.my/news/story.asp?file=/2012/5/3/business/11220992&sec=business), minimum wage has many benefits. Singh shares the same thoughts as our Prime Minister Datuk Seri Najib Razak, who announced earlier this year that minimum wages for labor is to be increased to RM 900 for peninsula and RM 800 for east Malaysia respectively effective January 2013.  Singh cited that the increase would bring glad tidings to the 3 million strong private sector employees; although he admits that there would also be disadvantages such as increased unemployment and a drop in investment. However, he believes that “economic growth and the investments that will take place and the promise of new jobs will be more than enough to offset those small impediments.”

Considering the rising cost of living in Malaysia, I can understand why the government sees increasing minimum wage as like the perfect solution. With an increase in minimum wage, low-skilled workers will see an increase their purchasing power. With this, they can afford to do more with their monthly salary besides paying off monthly obligations, and perhaps even set aside money for rainy days. Problem solved, right? Wrong. It would be too optimistic to think that increasing minimum wage would solve all problems. I personally see minimum wages as a good intention that will yield bad results, as it would lead to problems such as increased unemployment, crime rates, government expenditure and school dropouts. As you can see, increasing minimum wage can create even more problems, as I’ve explained before.

First things first, what is minimum wage and what are its effects? Minimum wage, or wage floors can be explained as a government-imposed regulation that makes it illegal for firms to pay wages below the specified legal amount, which in this case would be RM 900 and RM 800 in peninsular and east Malaysia respectively. To understand the effect of minimum wage, a more helpful approach would be to see what the labor market would be like without one. Without government intervention, the market forces would determine wage. With this, workers’ and firms’ surplus are maximized at the equilibrium level. (See Figure 1) A minimum wage below equilibrium won’t bring about negative changes, however, minimum wage is usually placed above equilibrium level (Figure 2), and this is where the problems start to surface.

Figure 1

                                                        Figure 2

Figure 3 shows an in increase from the previous wage floor of RM650 and RM450 to RM900 and RM800. As you can see, there is a rather drastic increase in wage floor.  From it surface, it would seem that increased minimum wage would combat unemployment, as more people will be willing to supply labor. The question is, which firm would be willing to hire labor at that cost? Those unemployed are not unemployed by choice. They are the ones who are willing to work, but no firm is willing to hire them. It could be that they lack the skills firms are looking for, or that firms don’t think their skills match up with the price they’re paying. What happens here is again a surplus of labor. As a result, both workers’ and firms’ surpluses are decreased, and a deadweight loss arises and unemployment increases.

                                                       Figure 3

Undeniably, increased minimum wage would benefit labor. But the only ones who will be benefitting from the increased minimum wage are those who manage to find employers who are willing to pay that much in wages for labor. This would be a small percentage and the rest of society would incur a potential loss from job searching as shown in Figure 4 below.

Call it minimum wage, call it a wage floor but to firms, it can only mean one thing: increased expenses. The moment these laws are enforced, firms will have to comply, like it or not. Firms would see diminishing returns in the short run as their average variable cost, marginal cost and total costs increase. Considering 99% of companies in Malaysia are Small-Medium Industries (SMIs), there is a concern on whether they’d be able to pay wages. They have voiced out their concerns saying they could be forced to retrench 4 million jobs, or close their business. Even if they retain their current labor, it is highly likely that black markets would emerge. Firms could offer wages in the illegal region and people would be more than willing to work as they have monthly obligations to meet. The severity of the wage disparity in the black market would depend on how effective government surveillance is. With tight rule enforcement and a watchful eye over firms, the black market wage would not be as drastic. However, there is a fear that there would be one too many firms to look after.

Let’s say the government does a good job in enforcing the minimum wage hike and no black markets emerge. Firms will have to pay more for low-skilled labor. This will also create a chain and push up wages for all labor regardless of their skill level. And seeing as firms still have marginal costs to cover, and what they most likely would do is hike up the prices of goods and services, and pass the cost to their customers, who are ironically also labors. It’s a never-ending cycle!

Consequently, the government would have to invest a lot of money into creating re-employment programs that would help hone the skills of these labors, as they have done with Sistem Latihan Dual Nasional (SLDN). Firms could be willing to pay higher minimum wages if they think that the skills of labors would improve the firm’s productivity. Besides that, the government might have to pay unemployment compensation in the form of medical care and general welfare of people who can’t support their own selves. Examples of countries that provide unemployment benefits are the United States of America, Italy, and Australia. If you noticed, most of them are first world countries that could afford to do all this. Can you imagine what if would be like if Malaysia followed suit? All I’m saying is it’s probably not a smart move to increase the government’s expenditure as Malaysia’s a developing country.

Unemployment would lead to a rise in crime rates, especially when left unattended for a long period. Considering the already high crime index in Malaysia, I’m sure we wouldn’t want to head in that direction. But then again, there are bills still need to be paid, mouths need to be fed and people would be driven to do things they otherwise wouldn’t. I’m talking about crimes. Let’s say proponents of increased minimum wage suggest unemployment benefits as in the previous paragraph to deter crime rates from rising, what is the guarantee that it will reach all people who are unemployed? In the countries that practice unemployment benefits, there are many tedious procedures one must go through to obtain the benefits, from being eligible, declaring yourself unemployed and constantly certify that you are eligible. People would take the easy way out and resort to crimes.

An increased minimum wage would also further encourage high school dropouts. The United Stated of America again gets a mention here; with unusually high rates of high school dropouts that it has become a national problem. Teens from struggling families that are in desperate need for money might see the increased minimum wage as a golden opportunity to set their family free from the shackles of poverty. From balancing school and part time jobs (which isn’t an easy feat), more would opt to work full time, quitting school altogether to make ends meet. However, with little to no skills to offer, firms would most likely not absorb these teens into their workforce. What will be next for these dropouts? You’ve guessed it, crime.

In conclusion, an increase in minimum wage might look attractive in the short run, but if we were to look at it in the long run, it would only create more problems rather than solve them. If you were to look at it from the perspective of equity and justice, increased minimum wage would only rob these people of their daily jobs, and there’s nothing fair about that. Therefore, I think the government must look at other ways to solve unemployment instead of combatting it by increasing minimum wage. One of the ways is by encouraging entrepreneurship so that many firms may emerge and absorb the labor force. Increasing minimum wage is not the answer.