So what happens next?

There have been several posts on demand and supply and changes to the market. Below is a link to an article in The Guardian about the effects of the recent weather on honey production.

What side of the market is affected?
What will happen in the market for honey?
How will the market for jam and marmalade be affected by changes in the honey market?
Upon what will the extent of the changes in these markets depend?

Good one for IB micro internal assessment!

The Guardian article is here

From market prices to inflation

Markets set the prices for individual goods. Inflation is the continuous rise in the general price level. Of course we are taught that we must not confuse the two. When the price of a particular good rises this is due to either a rise in demand or a supply constraint, not inflation. But surely there is a connection?

The issue of food prices is a good example of where we can link market prices and inflation. Food prices generally are about to rise due to several factors:

1. The wet summer in the UK has led to a lower harvest and it is proving difficult to plant next years crop.
2. There have been droughts in the USA, Russia and southern Europe during the growing season.

This means that cereal prices overall are rising. It's due to a supply shock, relative scarcity has increased.

But this is going to feed through into inflation as it will cause a wider impact on prices.

Clearly the goods which use soya, wheat etc will have to pass on the extra costs. The price of bread for example. But cereal crops are also used to make biofuel and to feed animals. So we can, at the very least, expect the price of meat to rise too.

While these are changes in relative prices of individual goods this will feed through into inflation. Food is a significant item in average household budgets and so has a significant weight in the CPI. The rise in food prices, and goods which use inputs from the agricultural sector, will feed into CPI and cause a rise in the index.

This is, of course, quite reasonable. Average households will find the cost of living is rising

The Guardian covers the story here

Supply shock pushes market price up

In an unfortunate turn of events Olive Oil prices are set to rise by 25% or more.

The cause is a fall in the olive crop in Spain. The problem is two supply shocks which have reduced the quantity and quality of the crop.

First there was a frost when the olive trees were flowering, which meant less crop. Then there was a drought over the summer (the rain fell on the UK) and this means lower quality fruit with less 'juice' to turn into olive oil.

The effect is that the supply of olive oil is lower, shifting the supply curve to the left. The market price will rise and everyone will have to pay more for their olive oil. The full extent of the change will depend on the elasticity of demand.

If there is an upside it is that Greece will get more for their olive oil and they produced a normal crop.

The Guardian covers the story here

What has this got to do with the price of fish?

The report linked below states that the UK cannot supply enough fish from its own waters to meet demand. It uses the idea of a day in the year when we have eaten our years supply of fish - in 2012 that is August 21st.

Of course it does not work like that, each day Britain consumes, on average, about one third more fish than we catch.

The situation is complicated by quotas, which are aimed at preserving fish stocks.

Read the article and consider:

1. What should happen to the price of fish in the UK as a result of this 'excess demand'

2. Is it bad to import fish?

3. What happened to the fish? Britain used to be able to catch more than enough from her own waters.

BBC article is here

Lessons in supply and demand

Corn prices are forecast to rise sharply due to a poor US harvest.

The main one is that there has been a drought in the US, causing corn production to be loweer than last year (indeed the lowest for decades).

Falling production means the supply curve of wheat moves to the left compared to last year and the result is a higher price. This is made worse by two other factors:

1. World population growth means there is rising demand for food. The demand for all food products is growing, shifting the demand curve to the right and so putting upward pressure on prices.

2. The US insists that 40% of US corn is used to make ethanol for car fuel. This restricts the amount of corn available for food.

For now we will leave aside the fact that using corn to make ethanol is exceptionally inefficient and is done for political not environmental reasons.

Grecians will have no problem drawing the diagrams for this, but Deps can use it as a good exercise in understanding market prices.

The BBC covers the story here

Fatties surcharge proposed for airlines

A former QANTAS economist has proposed that overweight people should pay more to fly.

When you fly you are given a weight limit for you luggage. A base amount might be 20Kg or 23Kg, which is not that much for a long trip. Ryanair charge €12 per Kg for overweight bags (and more for each extra bag).

And yet as you queue up you see people of all shapes and sizes and their weight differences make the luggage weights look insignificant. So why not charge passengers by their combined body and luggage weight rather than per seat?

This may seem rather odd, even discriminatory. But the heavier an aeroplane is the more fuel it uses. So the airlines costs are affected and in a market prices should be (partly) determined by costs.

The economics of this idea is known as price discrimination. Customers are charged different prices for the same product. Usually this is according to when they buy, or where they buy the product, but this is a quite reasonable extension of the idea.

Of course for overweight people this will be a new way of improving on the market failure caused by the 'lack of information' goods - high fat foods!

The ABC report the story here - please tell me if you can't see the video

Meddling in markets

For some reason governments can't help interfering in agricultural markets. And most of the time they make things worse, an example of government failure.

Thailand are the latest government to distort a food market. They are offering a premium of about 50% to rice farmers to buy up rice in unlimited amounts. The claimed motive for this policy is to raise the income of farmers who are amongst the lowest paid in the country.

But such policies, however well intentioned, distort the market. This effectively raises the price in the local market, (see the diagram above) but will inevitably lead a situation of excess supply in Thailand and a distortion of the international market.

As a major rice exporter changes to the local market will inevitably lead to changes in the international price. Why would a Thai farmer sell on the open market when the government will pay more? So the supply of Thai rice to the international market will fall, forcing up the world price and causing problems for the poor of other nations.

There is also the question of what to do with the rice the government buys. Some schemes stockpile food in years of surplus to release in lean years. Doing so helps moderate price fluctuations and smooth out farm incomes. However the Thai floods mean production is actually down this year so its not the time to start buying up stocks.

The EU pursued a disastrous agricultural policy from the 1950's to the mid 2000's where they paid farmers far to high a price for food. This caused an inefficient over production in Europe and reduced the incomes of farmers in LDC's where the market would produce the food most cheaply and efficiently. The solution for the EU was to move to direct income payments, simply giving money to the farmers and so avoiding the incentive to them to produce ever more unwanted food.

Businessweek report the Thai policy here

Petrol consumption falls 15%

The AA has reported that petroll consumption was 15% lower in the period January to June this year. The AA say this is due to rising fuel prices.

AA President Edmund King said: "There is no downplaying the impact of record fuel prices on family's and other people's lives. A 1.7bn litre drop in petrol sales says just one thing - too many car owners cannot afford these record prices."

On an annual basis prices have risen about 20% for the period in question. So does this mean that the rise in price by 20% has led to a 15% fall in quantity? That would imply a price elasticity of demand (PED) of -1.3.

In this case simple PED cannot be applied. While quantity demanded has fallen 15% this is not just due to the rising fuel prices. Ceteris paribus does not apply because at least two vital factors have also changed:

1. Real  disposable income has fallen in the period due to high inflation, rising taxes and falling actual incomes due to higher unemployment.

2. Consumer confidence has fallen leading to a change in tastes and preferences.

Both of these changes mean the demand curve for fuel has shifted to the left meaning that less is demanded at all prices.

So the change in the amount of fuel consumed is a good example of how in the real world more than one factor can change at once. However we can understand the change as a combination of a move 'up' the demand curve as price rises and a movement of the demand curve to the left as some conditions of demand change.

The BBC report the AA findings here

The problem of argricultural markets

I have never met a poor farmer, but I have never met one that didn't complain either. But they do have their cross to bear.

The problem of agricultural markets is that natural events cause good and bad years with no predictability and so farmers incomes are literally all over the place. Ironically the 'good years' for crop yields are the bad years for income.

Deps won't know the term 'inelastic' yet, but it means that demand does not vary much with price. In rich economies everyone has enough income to eat and when food prices fall they don't each much more. Equally when food prices rise people have to buy food and so demand does not go down much either. So demand for food is 'inelastic'.

The result is that when there is a bumper crop farmers have to accept very much lower prices as supply expands. The quantity consumed goes up by less than the price falls and as a result consumers expenditure (farmers incomes) is less. In the diagram above the expenditure at price P2 and quantity Q2 is more than P1 Q1.

This is the situation Australian orange growers find themselves in. The rain and the sun arrived at exactly the right times, and so everyone has a good crop. There is no point letting the oranges rot on the tree and so all the farmers sell, raising supply in the market and lowering the price. The result, in this case, is a price lower than the costs of production.

This is one reason why so many countries intervene in agricultural markets. (Note this comes up in IB all the time.)

I suspect that the fools in IT continue to block the pictures, but I can't find a link to a picture that will show what I need you to see. So use your phone or ask Mr. Camburn to use his computer.

The Age explains the plight of the orange farmers here