Free Slides from Ed Dolan’s Econ Blog Supply and Demand: Will Fracking Enrich India’s Guar Farmers? July 30, Terms of Use: These slides are made available under Creative Commons License Attribution— Share Alike 3.0. You are free to use these slides as a resource for your economics classes together with whatever textbook you are using. If you like the slides, you may also want to take a look at my textbook, Introduction to Economics, from BVT Publishers.Attribution— Share Alike 3.0 Introduction to Economics

What is Guar?  Guar is a small bean that is the source of guar gum, a substance that forms a gel when mixed with water  Guar gum is widely used in foods ranging from baked goods to ice cream, which need to retain moisture for maximum shelf life  More than 80 percent of the world’s guar is produced in India P published Aug 1, 2012 Ed Dolan’s Econ Blog

Fracking Sends Guar Prices Soaring  Guar is also used in hydraulic fracturing (fracking), a method of producing oil and gas  Increased use of fracking sent guar prices soaring in early 2012  In the first half of the year guar prices more than doubled as big producers built up stockpiles to guard against supply interruptions  These events have people asking, will fracking bring riches to India’s guar farmers? P published Aug 1, 2012 Ed Dolan’s Econ Blog Hydraulic Fracturing Operation, Texas

Question: How Does the New Use Affect the Price? How does fracking, the new use for guar, affect the price?  Does the demand curve shift? If so, show the new demand curve as D 2  Does the supply curve shift? If so, show the new supply curve as S 2  Show the new equilibrium price as P 1 P published Aug 1, 2012 Ed Dolan’s Econ Blog

Answer: How the New Use Affects Price  The new use of guar will shift the demand curve to the right. The new demand curve is shown here as D 2  Nothing has affected the “other things being equal” conditions behind the supply curve, so the supply curve does not shift  The market moves along the supply curve until a new equilibrium price is reached at the level P 1 P published Aug 1, 2012 Ed Dolan’s Econ Blog

Short-Run Supply Effects: Growing Conditions  Guar supply, like that of any farm product, is subject to changes in growing conditions  In 2012, monsoon rains were late in the parts of India that grow guar, causing possible crop loss P published Aug 1, 2012 Ed Dolan’s Econ Blog Monsoon Season in India Photo source: deeptrivia

Question: How Do Late Rains Affect the Price? Other things being equal, how do poor growing conditions (late rains)affect the price?  Does the demand curve shift? If so, show the new demand curve as D 2  Does the supply curve shift? If so, show the new supply curve as S 2  Show the new equilibrium price as P 2 P published Aug 1, 2012 Ed Dolan’s Econ Blog

Answer: How Late Rains Affect the Price  Poor growing conditions will cause the supply curve to shift to the left, for example, from S 0 to S 2 as shown here.  Other things being equal, growing conditions will not affect the demand curve  The market moves long the demand curve until a new equilibrium price is reached at the level P 2 P published Aug 1, 2012 Ed Dolan’s Econ Blog

Short-Run vs. Long-Run Supply  In the short run, supply of guar is inelastic because opportunities to expand production is limited  In the long run suppy is more elastic because guar can be substituted for other crops, like cotton  Also, guar crops could be established outside India in countries including Australia, Argentina, and the United States P published Aug 1, 2012 Ed Dolan’s Econ Blog Cotton Ready for Harvest Photo by Kimberley Vardeman

Question: Short-Run vs. Long-Run Market Adjustment  How do you expect long-run adjustment of the guar market to differ from short-run adjustment when there is a permanent shift in demand? (Assume normal growing conditions)  Draw a diagram that shows both short-run and long-run supply curves  Show a rightward shift in the demand curve  Show how the market first moves to a short-run equilibrium E 1 and then to long- run equilibrium E 2  What happens to the price over time? P published Aug 1, 2012 Ed Dolan’s Econ Blog Cotton Ready for Harvest Photo by Kimberley Vardeman

Answer: Short-Run vs. Long-Run Market Adjustment  In the short run, the shift in demand causes the market to move along the short-run supply curve S SR from E 0 to E 1  In the long-run, expansion of the crop to new growing areas allow the market to move to equilibrium E 2 on the more elastic long-run supply curve S LR  Over time, then, the shift in demand causes the price first to rise sharply to P 1, and then to fall back partway to an intermediate price like P 2 P published Aug 1, 2012 Ed Dolan’s Econ Blog

The Bottom Line  The bottom line? In the short-run, new demand from fracking will bring prosperity to India’s guar farmers  Over time, high prices will encourage spread of the crop to new areas  The price will moderate. Farmers in favorable growing areas will still earn good profits, but not as high as the short-run windfall profits they enjoyed in 2012 P published Aug 1, 2012 Ed Dolan’s Econ Blog