Inappropriate Prices Sometimes society thinks prices are too high or too low for the good of everyone: Price too high: may be an essential item, or deemed ‘good for society’ but inaccessible to those on low incomes (merit goods or positive externalities) Price too low: consumption may give rise to negative externalities (eg. cigarettes) or sellers can’t make a living (farming)

Minimum Prices Gov’t may intervene to raise agricultural prices and farm incomes Price can’t go below the minimum Min price is always above the market price Price Quantity of Wheat Min Price Mkt Price S D Excess supply QdQd QsQs

Minimum Prices While aims may be noble, outcomes can be dire: Sellers have incentive to sell lots (they get a higher price now); buyers don’t buy so much at the higher price Excess supply must be dealt with: - destroyed (waste of resources) - ‘dumped’ on less developed countries for rock- bottom prices (puts local producers out of business)

Maximum Prices Gov’t may fix a maximum price to ensure more people have access to the product Price cannot go above the maximum; eg max rent on low-cost housing A maximum price is always below the market price Rent Quantity of flats Max Rent Mkt Rent S D Shortage QSQS QDQD

Maximum Prices While the aims may be noble, the outcome may be worse! Shortages occur and even less is available to those who need it (sellers don’t want to sell for such a low price – not worth their while) Black markets may develop (with accompanying corruption & illegal activity)

Unstable Commodity Prices Prices may fluctuate too greatly to achieve efficient allocation of resources Commodities are: raw materials used in production of goods (eg. minerals, metals, or agricultural goods) Large swings in price distort messages sent to producers & consumers, often resulting in under-production Makes it difficult for producers to earn a steady income, plan & invest for the future

Agricultural Markets Although there is a long-term supply curve determined by all the different suppliers theoretical willingness to supply, actual supply in any given season is fixed & perfectly inelastic Because demand for food tends to be relatively inelastic, a ‘good harvest’ where prices fall, actually can mean falling revenue & profits

Good Weather; Good Harvest Price Quantity of Wheat P planned S planned D P actual S actual Q planned Q actual - Revenues tend to fall

Bad Weather; Bad Harvest Price Quantity of Wheat P planned S planned D P actual S actual Q actual Q Planned - Revenues tend to rise

Price & Income Elasticity Over the long run, supply of agricultural commodities has increased – technology, GM foods, etc. – decreased relative price of food But demand for food is price inelastic so revenues have fallen World incomes have risen, raising the cost of living and relative standard of living of production in the non-agricultural sector. But food is very income inelastic so farmers have not seen the benefits & have fallen even further behind on relative terms

Time Lags The length of the growing season means there are time lags between farmers making decisions about production and actual changes in production This reduces the ability of producers to respond to changes in the market and find the best allocation of resources – it’s a guessing game!

Buffer Stock Schemes Gov’t or relevant agencies establish a ‘band’ outside which prices are not allowed to go – authorities will step in to bring prices back into the band Price Quantity of Wheat Max Price S D Min Price If prices rise above max, gov’t sells stock into the market to bring the price down If prices fall below min, gov’t buys up stock to bring price back up S1S1 S2S2

CAP (in a nutshell!) 1/3 of European Commission budget spent on CAP Subsidies & min. prices cause food surpluses which have to be dealt with Selling them into foreign markets cheaply disrupts agricultural systems in other countries Destroying them represents a complete waste of resources Many countries object to CAP and it is criticised by the WTO