The consequences of decreasing the subsidy of sugar

According to the article from The Malaysian Insider dated on 28 September 2012, the subsidy on sugar will be reduced by 20 sen per kilogramme effective on 29 September 2012.Prime Minister Datuk Seri Najib Razak said that the decision to reduce the subsidy on sugar was made as about 2.6 million people in the country were diabetic. But the government is still subsidising 34 sen per kilogramme on sugar involving an expenditure of RM278 million. The price of sugar, a controlled item, had gone up four times, to RM2.30 per kilogramme. It will be increased to RM2.50 per kilogramme by 29 September 2012. He said it was hoped that the business community would not burden the people by increasing the price of sugar, but instead reduce the content of sugar in food and beverages. The increase had been necessitated by factors beyond the government’s control, such as climate change, natural disasters in producing countries and global market price.

In my opinion, subsidy, which is a payment made by the government to a producer, decrease the prices paid by buyers and also decrease the price which producer produce. The effects of a subsidy are similar to the effects of a tax but they go in the opposite direction. So, subsidy is like a negative tax. Based on this article, the government is still subsidizing 34 sen per kilogramme on sugar after reducing 20 sen from the price of sugar per killogramme, involving an expenditure of RM278 million.

There are five effects of a subsidy to sugar. The first one, the supply of sugar will increase when it is subsidized. Next, a subsidy decreases the price of sugar and increases the quantity production of sugar. Subsidy also lowers the price paid by consumers but increases the marginal cost of producing sugar. Furthermore, the government pays a subsidy to sugar producer on each kilogramme of sugar produced. Lastly, the subsidy results in inefficient production. At the quantity produced with a subsidy, marginal social benefit is equal to the market price, which has fallen. Marginal social cost has increased and exceeds the market price (marginal social benefit), so the increased production brings inefficiency. Below is an example of the effects of a subsidy on sugar.

As shown in the diagram above, with no subsidy producers produce 20 million tons a year of $20 a ton. Let‘s say that the government give a subsidy of $10 a ton. This shifts the supply curve rightward to S-subsidy. The equilibrium quantity increases to 30 million tons a year, the price falls to $15 a ton, and the price plus the subsidy received by producers rises to $25 a ton. In the new equilibrium, marginal social cost exceeds marginal social benefit and the subsidy results in inefficient overproduction.

Next, sugar will increase 20 sen per kilogramme on 29 September 2012 as government reduced the subsidy on sugar. According to the law of demand, there is an inverse relationship exists between the price of the sugar and the quantity that consumers are willing and able to purchase. As government reduces the subsidy on sugar, it means the price of sugar will increase, causing the quantity demand of sugar will decrease. Assume that sugar is a necessity good in our life, faced with the higher price of sugar and unchanged income, people are not willing to pay the price that had been raised and they will tend to use less sugar. An increase in the price of sugar will only slightly affect the quantity demanded. Thus, the quantity demanded of sugar is inelastic.

The increase had been necessitated by factors beyond the government’s control, such as climate change, natural disasters in producing countries and global market price. Let‘s say there’s natural disasters, supply of sugar will decrease and the supply curve will shift leftward. Thus, the supply of sugar will not be sufficient for the demand. There will be an underproduction in the market of sugar causing the price of sugar will increase. Hence, the supply of sugar will shift to the left. Other than that the equilibrium price will increase and the equilibrium quantity will decrease. Some of people might not be able to buy the sugar when the increase in the price of sugar. Thus, the demand of sugar will automatically decrease; the market sugar will change to be more efficient.

Prime Minister Datuk Seri Najib Razak said the decision to reduce the subsidy on sugar was made as about 2.6 million people in the country were diabetic. He said it was hoped that the business community would not burden the people by increasing the price of sugar, but instead reducing the content of sugar in food and beverages. But the price of sugar had already gone up 4 times to RM2.30 per kilogramme. On 29 September 2012, the price will be increased to RM2.50 per kilogramme. To me, increasing in price  of sugar is a good thing as excess consumption of sugar is not good for our health. It can cause serious diseases like diabetics.

In conclusion, subsidies are necessary for government to pay to producer when the prices of necessity goods increase and people might not be able to buy them. An increase in subsidy will lower the price, the demand will increase. A decrease in subsidy will increase the price, the demand will decrease. Natural disasters will shift the supply leftward, so the price of market equilibrium will increase and the quantity of market equilibrium will decrease. The increase in subsidy of sugar would only burden the people. It might not be able to reduce the people with diabetics.