C6 - Supply/Demand Market Model Changes in Market Conditions using Demand and Supply Concepts Analysis - elasticities Expanded Market Framework Derived Demand and Supply Marketing margin

Simple Market Model Demand and Supply shifts Quantitative analysis Qualitative implications for equilibrium Price and Quantity Inferences – Is S/D responsible for change in conditions? using elasticities (own, cross, income)

Simple Market Model - Demand shifts P & Q move in same direction D2D2 P D1D1 S Q

Simple Market Model - Supply shifts P & Q move in opposite direction D P S2S2 Q S1S1

Unterschultz, J.R., Scott R. Jeffrey and Kwamena K. Quagrainie., Value-Adding 20 Billion by 2005: Impact at the Alberta Farm Gate., AARI Project # , Department of Rural Economy., University of Alberta, 2000

Unterschultz, J.R., Scott R. Jeffrey and Kwamena K. Quagrainie., Value-Adding 20 Billion by 2005: Impact at the Alberta Farm Gate., AARI Project # , Department of Rural Economy., University of Alberta, 2000

Price Analysis Using Elasticities - Change in Demand - Appendix A From Schrimper: Demand Elasticities for Beef (-0.62 and 0.39) Price increase = 30%; Income increase = 1% Change in demand = (-0.62)(0.30) + (0.39)(0.01) = (- 18%)

Change in Supply From Schrimper: Supply Elasticity for Corn (0.34 to 1.59) Price increase = 30%; Change in supply = (0.34)(0.30) = (10%) US expected production 2013 = 14 Billion bu (356 Million tonnes) 12.5 Bbu in 2010

Change in Equilibrium Price. Demand Shifter: (change in income) Equilibrium Condition: (supply = demand)

Analysis of the Economic Importance of Changes in Soybean Use. Nicholas E. Piggott, Michael K. Wohlgenant, and Kelly D. Zering, North Carolina State University January 31, 2000

Expanded Framework Multiple levels of marketing system Derived demand –retail (primary) => farm (derived) –marketing margin –marketing activities (cost) links consumer and producer behaviour –deduce how retail shifts impact farm demand

Derived (farm) Demand DrDr P DfDf Q Retail (Primary) Demand Derived Demand Linear Marketing Margin

Assumptions: Linear Marketing Margin Inputs: used in fixed proportions –Retail Price = farm price + marketing inputs –constant returns - no economies of scale (marketing activities) Implications –fixed absolute margin –Price elasticity - market levels Prices (marketing inputs) –fixed/constant => perfectly elastic supply (competitive markets) Margin –temporal invariance

Elasticity and Derived Demand DrDr P DfDf  = 1 (P/Q) r (P/Q) f Demand elasticity at retail higher than farm level

Shifts in demand or margin Shift in retail demand – BSE crisis Farm level demand shifts down Marketing margin constant DrDr P DfDf

Shifts in demand (margin) Increase in marketing costs (new regulations) Farm demand (derived) shifts downward DrDr P DfDf

Alternative Models Margin varies with quantity (proportional markup) Decrease in marketing costs – as output expands Demand elasticity at retail still higher than farm level DrDr P Q DfDf  =1

Derived Supply Farm supply (primary) Retail supply (derived)

Derived Supply and Demand Quantity DFDF DRDR PRPR P SRSR SFSF Q*Q* PFPF

Shift in Demand DFDF DRDR PRPR P SRSR SFSF Q*Q* PFPF

Increase in Marketing Margin DFDF DRDR PRPR P SRSR SFSF Q*Q* PFPF Q

Some commodities have alternative uses An Extension - Appendix B Soybeans: US output 3.1 Billion bushels (2011) (0.9 Bbu ) Crush yields (60 lb bu) 47 lb meal (78%) and 11 lb oil Demand for beans = F(demand for meal and demand for oil) Total demand for beans (kinked demand function)

CBOT Soybean Price (2003 – 2011) $ 13 $ 6

S D1D1 D2D2 TD P*P* P Q Deriving Total Demand - Kinked Demand Function