Assuming that shoes have a world price of US$60 a pair, that the EU has a 45%
ad valorem import duty on footwear which applies to all types of footwear and
an Italian company is proposing a project to substitute 150,000 pairs of
imported shoes by domestically produced shoes. The annual cost of the project
(operating cost plus annual equivalent capital cost) at both market and
efficiency prices are $9.4 millions. Apart from the tariff there are no other
distortions to the EU domestic price of shoes. Calculate the net annual benefit
of the project:
a. At market prices. [2 marks]
b. At efficiency prices. [2 marks]
After you have done the work on this, please repost. One of the teachers will be happy to make suggestions/corrections to your ideas.
just noticed that u are doing the same question as me...and im looking for the assistance too^^
To calculate the net annual benefit of the project at market and efficiency prices, we need to consider the impact of the import duty on the cost of shoes.
a. Net annual benefit at market prices:
To calculate the net benefit at market prices, we first need to consider the cost of importing shoes under the current conditions (before the project).
Considering the world price of $60 per pair, and the import duty of 45% ad valorem applied by the EU, the cost of imported shoes would be: $60 + ($60 * 45%) = $60 + $27 = $87 per pair.
Now, let's calculate the total cost of importing 150,000 pairs of shoes at the current price:
Total cost = 150,000 * $87 = $13,050,000.
Next, we need to calculate the cost of producing domestically for the project. The cost of the project, including operating costs and annual equivalent capital costs, is given as $9.4 million.
Therefore, the net annual benefit at market prices would be:
Net annual benefit = Cost of importing - Cost of domestic production
Net annual benefit = $13,050,000 - $9,400,000
Net annual benefit = $3,650,000.
b. Net annual benefit at efficiency prices:
To calculate the net benefit at efficiency prices, we need to consider the impact of the import duty on the cost of shoes and eliminate the distortion from the EU domestic price.
Since there are no other distortions to the EU domestic price of shoes, the efficiency price of domestically produced shoes would be the same as the world price, which is $60 per pair.
Now, let's recalculate the total cost of importing 150,000 pairs of shoes using the efficiency price:
Total cost = 150,000 * $60 = $9,000,000.
The net annual benefit at efficiency prices would be:
Net annual benefit = Cost of importing - Cost of domestic production
Net annual benefit = $9,000,000 - $9,400,000
Net annual benefit = -$400,000 (negative value indicates a loss).
Therefore, the net annual benefit of the project at market prices is $3,650,000 and at efficiency prices is -$400,000.