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Income and Substitution Effects
When the price of normal commodities is determined by the market, the forces of demand and supply come into play in the determination of the market equilibrium[1]. In the case the automobile companies, the vanadium, GPS systems, steel and cars are normal goods whose market equilibrium are determined by the forces of demand and supply. At the same time, the GPS system, steel and windshield are a complementary good, which means that its demand will be influenced by the changes in the price of cars. This is in addition to the changes in their own demand, prices and supply.
The imposition of a unit tax on vanadium leads to a proportionate increase in its price per unit. This is because vanadium is a normal good, and manufacturers will tend to pass the tax margin to the buyers. A unit tax imposed on a normal product will be passed to the consumers by increasing the price in case of market determination of price[2]. The increase in the price of vanadium will in turn leads to a decrease in its demand because consumers reduce the quantity they are buying at their disposable income. At the same time, vanadium is a normal good, but a necessity in the production of steel, a raw material for cars. Therefore, the supply of vanadium will increase as the suppliers seek to profit in the market due to their passage of the tax margin to the buyers.
The rise in the price of vanadium leads to an increase in the price of steel. This is because vanadium is a raw material for steel. Therefore, an increase in the price of vanadium increases the cost of production of steel, which reflects in the price of steel as the producers will pass the cost to the buyer. The increase in the price of steel will in turn leads to an increase in the cost of making cars. As a result of the increase in costs, the price of cars will increase. The price of vanadium affects the price of the car because automobile manufacturers will pass the same increase in cost to the buyer in the form of a proportionate price increment.
The rise in the price of cars will lead to a proportionate change in the demand of cars. The demand of cars will reduce margins in the market. This is because the customers will be limited to buying cars in accordance with their level of disposable income. Without an increase in income, any increase in the price of a normal good lead to a proportionate increase in the demand of that product[3]. Therefore, customers will keep reduced the quantity of cars they buy. However, the supply of cars will remain the same, because the price does not affect the profitability of the car manufacturers. This happens because the suppliers are able to pass the incremental cost to the customers.
At the same time the increase in the price of vanadium will lead to a proportionate decrease in the demand for windshields and GPS systems. This is because they are complimentary goods used in the manufacture of the cars. Therefore, a reduction in the demand of the cars will lead to a reduction in the production, thereby reducing the demand for input goods such as windshields and the GPS systems. A reduction in the demand of windshields and GPS systems leads to a reduction in their prices, which reduces their supply in the market. This shows the comprehensive effect of the imposition of a per unit tax on vanadium.
Bibliography
Mankiw, N. (2014). Principles of Economics. Stamford: Cengage Learning
Frank, R. (2008). Microeconomics and Behavior, 7th Ed. New York: McGraw-Hill.
[1] Mankiw, N. (2014). Principles of Economics. Stamford: Cengage Learning
[2] Frank, R. (2008). Microeconomics and Behavior, 7th Ed. New York: McGraw-Hill
[3] Mankiw, N. (2014). Principles of Economics. Stamford: Cengage Learning