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

Fuel sales decline 15%

The AA is reporting fuel sales are down 15% in the UK, that's 1.7bn billion litres less compared with three years ago.

The AA blame rising fuel prices. The price of petrol was around £1.05 a litre three years ago and is now £1.37.

Can we infer the Price Elasticity of Demand from this data? Well actually no, ceteris paribus does not apply.

You could calculate the PED but it won't be very accurate. Incomes have changed markedly in the recession, moves to reduce carbon emissions have been ongoing and of course households have had time to adjust to higher prices since the 2008 peak.

Interestingly the same phenomenon has been reported all over the world. All over Europe, in India and North America fuel consumption is down.

The BBC report the drop 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

Petrol prices - is the duty holding back the economy?

Today a group of motoring lobby groups will appeal for a reduction in the duty on fuel. Britain has a relatively high duty on fuel and this has often caused motorists to complain.

The attached article, from The Daily Mail, tries to make the case as only the Mail can. Poor oppressed motorists and consumers are unfairly put upon by a cruel government.

The petitioners to the Minister will also suggest that lower fuel duty will allow the economy to recover as people are prepared to take to the roads again and goods will be transported more cheaply.

There are several points of economics.

1. While demand for fuel has fallen as prices have risen (by 19% in two years) the elasticity of demand is still inelastic. This is because there are few substitutes and its necessary for most people to get to work, the shops and pursue a normal life. Goods also have to be moved to customers.

2. While the tax on fuel is high it is there to help cover the external costs of travel. This includes carbon and other emissions and congestion. These negative externalities are significant and while difficult to measure most economists consider the fuel duty does not yet cover them.

3. The supposed macroeconomic boost of a cut in fuel duty is unlikely to make much difference to overall AD, but a cut in VAT would be more effective. Whether businesses will welcome the expense of changing VAT rates twice more is less clear.

Enjoy this rare link to one of the less credible newspapers, but beware their biased and rabble rousing views.

The Mail article is here

The problem of externalities in motoring

One of the facts of transport  is that cars cause negative externalities. Specifically congestion and carbon (and other) emissions.

One solution is to reduce the negative externalities by subsidising alternatives that create fewer problems. This principle has now been applied to electric vans. The government are to subsidise up to £8000 of the cost of an electric hybrid vehicle. This will result in a reduction in carbon fuel use and so less pollution.

The subsidy, which can cover 20% of the price of the van, is badly needed. A Ford Transit van costs £18000 in the diesel version, but £32000 in the electric version. This is a major obstacle to sales despite the lower running costs of the electric vans.

So with such a hefty subsidy there is there bound to be a big take up? Sadly not. A similar scheme was announced for cars. Under  that scheme 1,052 cars were sold in 2011, using up just £5.26m of the original £250m budget.

The problem is that the  demand for these cars and vans is highly inelastic. A very large price reduction is required to promote a significant rise in demand. You should consider what the factors are that determine that inelastic response.

One of the things we have learnt in transport policy is that complementary measures are needed to provide support for policies that aim at changing the mode of transport. This policy is just one of the many such policies.

The BBC cover the story here

University applications down, but is that a sensible response?

You will not need reminding that university tuition fees rise to at least £6000 next academic year. The predictable response is a fall in demand.

Applications are down by 8.7% overall. This is what we would expect from the law of demand, price up, quantity down. And in terms of price elasticity demand that's pretty inelastic as the price change, at least on the surface, is at least 100% and in the 'better' universities 200%.

But should students turn away from a university education? The problem with education is that it is an imperfect information good. Consumers of education will not consider two aspects of university education:
1. The benefit to society generally of having a better educated workforce.
2. The full benefits to themselves of attending university.

Potential university students only consider the benefit they believe they will get and weigh them against the cost of attending university. However students rarely realise at the time how much extra income a degree brings them. Nor do they consider their increased productivity and the benefit to the countries productive capacity.

Overall this means that consumers by less education than is allocatively efficient. This is an argument for subsidising education not raising the costs. Indeed some of us got paid to go to university, but maybe I will stop at that!

The Independent covers the application figures here

At last proof McDonalds is an inferior good

McDonald's have reported a 11% rise in revenue. What could have caused this?

We know that when real incomes fall then the demand for normal goods shifts to the left and less is bought at all prices. For inferior goods of course more is bought.

Is this the explanation for McDonald's? Well real incomes have been strained and some people have moved away from more expensive food to more 'affordable treats'. So this may be the reason.

However there are other factors in play. McDonald's have invested in their restaurants and staff and have promoted new products. So ceteris paribus does not apply.

Another reason could be that demand for McDonald's meals is elastic. They have many substitutes and they are not an essential item. So a price cut will have led to a rise in revenue.

The BBC report the story 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