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Isues in economics today 6th by guell chapter30

Chapter 30
Farm
Policy

McGraw-Hill/Irwin

Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.


Chapter Outline
• Farm Prices Since 1950
• Price Variation As A Justification For
Government Intervention
• Consumer And Producer Surplus
Analysis Of Price Floors
• Price Support Mechanisms And
Their History
• Kick It Up a Notch
McGraw-Hill/Irwin

©2012 The McGraw-Hill Companies, All Rights Reserved


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Farm Prices Since 1950
• Raw food commodity prices have
increased much more slowly than
overall inflation.
• From 1982 to 2008 overall inflation
was 101%.
• Most food commodities cost less in
2008 than in 1982 in nominal terms
(50% less in real terms.)
• Hog prices in 2000 yielded less than
45% of their 1982 levels.

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Farm Price Indexes

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Corn and Gasoline
• Corn is the main ingredient in
ethanol.
• E85 (available mostly in the
Midwest) is a substitute for

gasoline.
• Recent spikes in gasoline
prices have motivated
increased corn planting.
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©2012 The McGraw-Hill Companies, All Rights Reserved

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Corn and Gasoline Prices
Relative to their 2000 level

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Price Variability as the Justification for
Government Intervention
• Argument for intervention on
this ground
• Highly variable prices create an
unstable income for farmers
reducing their interest in farming.

• Argument against intervention
on this ground
• Using options markets and crop
insurance farmers can dampen
the impact of this variability.
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©2012 The McGraw-Hill Companies, All Rights Reserved

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Price Floors
• A Price Floor (a price below
which a commodity may not
sell) is set to protect farmers
from prices that go “too low.”

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Farm Markets Without Subsidies
P

A

P*

S

C

H

• Value to the Consumer:
• 0ACQ*
• Consumers Pay Producers:
• 0P*CQ*
• The Variable Cost to
Producers:
• 0HCQ*
• Consumer Surplus:
• P*AC
• Producer Surplus:
• HP*C

D
0
McGraw-Hill/Irwin

Q*

Q/t
©2012 The McGraw-Hill Companies, All Rights Reserved

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Price Floors•
P

S

A

Pfloor

B

Price Floor

P*



Consumers Pay
Producers:
• 0PfloorBQD



The Variable Cost to
Producers:
• 0HGQD



Consumer Surplus:
• PfloorAB



Producer Surplus:
• HPfloorBG

C
G

H

D
0 QD Q*
McGraw-Hill/Irwin

Value to the Consumer:
• 0ABQD



DWL
Q/t • BCG

©2012 The McGraw-Hill Companies, All Rights Reserved

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P

Government Purchase of Excess
• Value to the Consumer:
Goods
• 0ABQ
D

S

A
B

Pfloor
P*



Government Pays
Producers:
• QDBEQs



The Variable Cost to
Producers:
• 0HEQS



Consumer Surplus:
• PfloorAB



Producer Surplus:
• HPfloorE

C
G

H
F

J

0

Consumers Pay Producers:
• 0PfloorBQD

E

Price Floor
I



D
QD Q*

McGraw-Hill/Irwin

QS



DWL
Q/t • ECF
©2012 The McGraw-Hill Companies, All Rights Reserved

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Government Lowers the Price to
Consumers
P

S

A
B

Pfloor

E



Value to the Consumer:
• 0AFQS



Consumers Pay Producers:
• 0JFQS



Government Pays
Producers:
• JPfloorEF



The Variable Cost to
Producers:
• 0HEQS



Consumer Surplus:
• JAF
Producer Surplus:
• HPfloorE

Price Floor
I

P*

C
G

H
F

J

D
0

QD Q*

McGraw-Hill/Irwin

QS



Q/t



DWL
• ECF

©2012 The McGraw-Hill Companies, All Rights Reserved

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Variable Floors
• The Eau Claire Rule: the
wholesale price floor on milk is
set as a function of the distance
between a given community and
Eau Claire, Wisconsin.
• This subsidizes milk production
on the coasts of the United
States.

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©2012 The McGraw-Hill Companies, All Rights Reserved

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What Would Happen Without
Price Floors
• Prices would fall.
• Production would fall.
• Farmers would leave the
industry until the price of
commodities reached a level
consistent with zero economic
profit (normal profit).

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History of Price Supports:
Buying Programs
• Began in the 1930s.
• Reached a peak in the 1980s.
• The federal government purchased
vast quantities of corn, soybeans, milk
to be stored. The milk was powdered or
turned into blocks of American Cheese.
• The cheese given away to the poor in
the 1982 recession (which was the
origin of the phrase “government
cheese”.)

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History of Price Supports:
Output Restrictions

• The buying programs were ended in
the 1980s and were replaced with
programs where the government
offered higher prices for limited
production.
• The programs
• purchased dairy herds and slaughtered
them.
• Ordered grain farmers to set aside plots
if they wanted the subsidized price.
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