Micro essay - These notes are for an A* in economics. PDF

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Microeconomic Essay Practice Evaluate, using an appropriate diagram(s), the effectiveness of a buffer stock system as a method for the government to use to maintain stability in the market for wheat.

A buffer stock system seeks to stabilize the market price of agricultural products by buying up supplies in periods of good harvest and selling these stocks in periods of poor harvest in an attempt to keep the price level at the same/very similar rate. An example of where this is used is in places such as China, where they may use a buffer stock for rice, so they will stock up the rice in a good harvest so that if there is a poor harvest a few months later then they can use this stocked up rice to keep price levels at the same rate. As you can see from the graph, S is the normal supply of a product. This is why price and quantity are at the equilibrium at P and Q. When there is a bad harvest, supply shifts inwards to S1. Supply has decreased because there is a bad harvest, which means that quantity has decreased to Q1 and price has increased up to P1. If there is a good harvest then supply will be at S2. Because there has been a better-than-normal harvest, supply has shifted outwards to S2. This means that quantity has increased up to Q2 and price has decreased down to P2. Because there is more than usual, it means the price equilibrium will move and some of the stock may be wasted as not all of it is needed. These are both problems because if there is a bad harvest then it means that price will increase and there will be less stock and if there is a really good harvest then there will be too much stock and most will be wasted, plus it will bring the price down. Because there are fluctuations in the supply of crops (as can be affected by weather), the government needs to intervene to keep a stable price level in the economy. One method they would use to do this would be a buffer stocks scheme. This is where the government buys excess stock in periods of good harvest and then releases this in periods of bad harvest. As shown on the graph, S1 is where there has been a bad harvest so supply has shifted inwards as there are less crops than usual. This causes quantity to shift inwards to Q1 and price to increase up to P1, hence shifting the price level and equilibrium. In order to get this back to S, the government would release some of the stock from their buffer stock, which means that supply would increase back to S and this will bring the price back down to P and quantity back up to Q. S2 is the opposite of S1 and is where there has been a better-than-expected harvest so you have more crops than normal. This causes supply to increase, leading to a shift in quantity to Q2 and a fall in price down to P2. Because this will bring the price level down, the government will buy the excess stock and store it in a buffer system for periods of bad harvests. This means that supply will decrease to S, bringing the equilibrium back to P and Q. This would be a good method to use to maintain stability because it would keep stable prices which would help maintain income for the wheat growers. It would also help consumer welfare as stable prices will prevent excess prices needing to be paid. However, a buffer stock scheme may not always be effective. For example, perishable items cannot be stored for long periods of time which means that a buffer scheme would not work for these (e.g. vegetables). This means that although it would work for wheat, it wouldn’t work for other products. Also, the cost of buying the excess supply can be expensive so could cause the scheme to run out of money. If there was a massive overproduction then the scheme could not buy all of the excess which wouldn’t help keep the price levels stable and would also affect farmers wages and confidence, if the government brought the excess for some wheat farmers but not others due to the limit of money in the system. Plus, they would have to pay high

administrative and storage costs, as well as the start-up capital and funds to pay people to work within the scheme. Adding all of the start-up costs, the scheme would need to be well-funded and by the time these fees had been paid then they might not be able to buy up all of the excess so it would go to waste, rendering the scheme as ineffective. An alternative to a buffer stock scheme would be for the government to implement a minimum price (price floor). These are usually used to guarantee price support schemes for farmers and make sure they receive a fair price for their wheat. It is set above the normal free-market equilibrium as it won't have an impact if it is set below. This would help because it would prevent the price falling below the market price level and will also reduce price fluctuations so can also help consumers budget their spending, as well as stabilizing farmers' income. This may also lead to surplus for consumers and also the producers of wheat. This would keep the price stable in the wheat industry. To conclude, a buffer stocks system would be the best method of maintaining stability in the wheat industry. Although buffer stocks can be expensive to start-up, they will keep prices stable which will maintain farmers' income. It can also encourage more investment into agriculture. But if this isn't always sustainable then a minimum price may also be implemented to stop the price level from falling. However, a price floor is not a long-term solution because it could put the prices up too high and reduce demand or it could lead to an oversupply of food. Therefore, a buffer stock system is a better solution and method of maintaining price stability. Needs another evaluation point and decision needs criticality 14/20...