Aluminum is traded in competitive markets. Up to 1994, there were a handful of major firms that dominated the primary aluminum production. During 1980s, the top five private producers held more than one-third but less than one-half of the world’s production. However, by 1994, their share of the market dropped to one-third of the world’s production. Assume that no smelter has exited or entered the market since 1994 till 2010. Therefore current smelter is either still operating or idle. Also, technologies used during aluminum production are held efficiently still. Furthermore, innovations have led the production to a more efficient level at 2010.
During 1994, the average variable cost is equal to marginal cost for a typical producer in the industry. Assume all producers are in the situation of constant returns, so that the cost function must be linear. From the case, average variable cost is equal to total electricity cost plus total Alumina cost plus other raw materials plus consumables plus freight which in total sums up to $925. With constant returns, the average variable cost is equal to marginal cost which is $925. If the smelter is rational, it would produce at its capacity of 133.02 metric tons if the price is greater or equal than $925, or else produce 0. The aluminum price in London Metal Exchange in 1994 was about $1150 per ton. The price was actually higher than the marginal cost, creating a positive profit. Therefore every smelter in the industry would produce at its capacity which was about 133.02 metric tons.
From the 15 year price trend chart, aluminum price tends to stay around $1500/ton from 1995 to 2002. From 2002 to 2006, aluminum price rises sharply in a positive trend due to economy boom, and flows between $2500/ton to $3000/ton for the next two years. However, during the latter part of 2008 and the first part of 2009, aluminum price dropped substantially to about $1300/ton due to the global economic recession, the lowest price since...
Please join StudyMode to read the full document