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Ag Policy, Lecture 1 Knutson 6 th Edition, Chapter 2

This lecture provides a comprehensive overview of demand and supply theories in economics, focusing on key concepts such as elasticity of demand and supply, shifts in demand, and production stages. It explores how changes in income, population, prices of other goods, and preferences influence demand. Additionally, the lecture discusses the significance of elasticity measures in predicting policy and revenue impacts. By understanding these principles, students will gain valuable insights into how scarce resources are allocated in response to unlimited wants, laying the groundwork for future studies in economic policy.

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Ag Policy, Lecture 1 Knutson 6 th Edition, Chapter 2

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  1. Ag Policy, Lecture 1Knutson 6th Edition, Chapter 2 • House Keeping • Roster • Seating Chart • Pictures • Tell me about you • Name • Major • Hometown • Where to eat in your hometown • Career Plans • Today • Review of Economics • Demand Theories & Concepts • Supply Theories & Concepts

  2. Economics Review • Economics – allocation of scarce resources to the unlimited wants of people • Demand is a schedule of the maximum quantity consumed at alternative prices $ D Q/yr

  3. Demand (Continued) • Change in Demand • What changes (shifts) demand? • Income (1-3% growth annually) • Population (1-2% growth annually) • Prices of other goods • Tastes & preferences $ D 2 D 0 D1 Q/yr

  4. Demand • Change in quantity demanded • Change in quantity demanded occurs due to change in own price $ P 0 P 1 1 P 2 D q q Q/yr q 0 2 1

  5. Demand • Elasticity of Demand • Own price elasticity of demand • %Change in Q Y / %Change in P Y • E = %ΔQY / % ΔPY • How do you interpret E = -0.25 • What is Inelastic (Insulin) • What is Elastic (Vacation Cruises) • Factors that influence Elasticity • Necessity • Availability of Substitutes

  6. $ -.60 -1.14 TD DD Q/yr. Demand • Elasticity of Demand • Domestic demand • Export demand • Why more elastic?

  7. Demand • Other Elasticity Measures • Cross price elasticity of demand %ΔQY / % ΔPX • Substitutes • Complements • Income elasticity of demand %ΔQY / % ΔI • Normal Goods • Inferior Goods

  8. Ed = -0.25 Ed = -1.25 5 5 D 4.5 4.5 D Qx 8.0 Qx ? 8.0 ? Demand • Why are measures of elasticity important • Predict Policy Impact • Revenue impact Px Px -1.25 = %∆QY / %∆PY -1.25 = %∆QY / -0.10 12.5 = %∆QY 8 * 1.125 = 9.0 -0.25 = %∆QY / %∆PY -0.25 = %∆QY / -0.10 2.5 = %∆QY 8 * 1.025 = 8.2

  9. Supply • 3 stages of production • Produce in Stage II II III Output I TPP X input Output 1 MPP APP X input 1

  10. $/Output y* TVP = TPP * Py * X input $ X 1 1 MVP = P MPP y X1 MFC X1 * X X input 1 1 Supply • 3 stages of production • Multiply MPP and APP by Price of the output

  11. Supply • Where the supply curve comes from • Marginal cost curve MC = Px / MPPx • Average variable cost AVC = Px / APPx $ MC AVC Q/yr

  12. Supply • Supply curve is the MC above the AVC for each firm • Supply is a schedule of quantities of output that will be offered for sale at alternative prices • Shutdown price $ MC AVC Q/yr

  13. Supply • Firm Supply and Industry Supply $ $ $ $ $ $ S Firm 1 QY Industry QY Firm 2 QY • Factors change Industry Supply for Output Y • Technology • Costs of inputs to produce Y • Ag. Policy S0 S1 S2 P QtY

  14. Supply • Factors that change Supply Function for firm • Price of Input • Productivity of X to produce Quantity of Y • Increased productivity Shifts MC to right • Analyze impacts on supply for the industry by starting with the firm $ MC1 MC2 AVC1 AVC2 Q/yr

  15. Supply • New Technology – BST PST Roundup Ready crops • Increase TPP >> Higher MPP >> Lower MC • Supply shifts to the right Y TPP1 Y TPP0 MPP1 X X MPP0 $ MC0 AVC0 S0 $ S1 MC1 AVC1 Q Y /yr Q Y /yr The Industry The Firm

  16. Supply • Inflation in Input Prices and Supply Price input increases Px MC = Px / MPPx AVC = Px / APPx S1 S0 $ Q/yr $ MC2 MC1 AVC2 AVC1 Q/yr

  17. Supply • Elasticity of Supply • Es = %ΔQY / %ΔPY • Es = 0.20 Es = 0.20 = %ΔQY / %ΔPY 0.20 = %ΔQY / 25% 5% = %ΔQY New Quantity = 2600 * 1.05 = 2730 PY S 2.5 2 2,600 ? QY

  18. Supply • Cross elasticity of supply • Elasticity with respect to the price of another crop Es(QY, PX) = %ΔQY / %ΔPX Es(QY, Px) = -0.15 PX 2.5 S of Y wrt PX 2.25 ? 2,600 QY

  19. Supply and Demand • Equilibrium price is where Demand equals Supply S1 $ S2 P 1 P 2 D q Q/yr q 2 1

  20. Supply and Demand • Equilibrium price is where Demand equals Supply • After the crop has been harvested the supply becomes perfectly inelastic • Supply in the marketing year is S1 or S2 S1 S2 $ P 1 P 2 D q Q/yr q 2 1

  21. Elasticity • The limits of Elasticity Measures • Difficult to measure demand • Difficult to sort out cause/effect

  22. Ag Policy, Lecture 1 Supply & Demand Review • You should be able to calculate any of the missing pieces using the formula for elasticity • Can you define the different measures of elasticity? • Can you logically describe/identify the interactions of supply and demand? • Can you logically describe/identify the make-up and underlying concepts of a market supply and demand? How do various factors change supply or demand? • Next Class • More Economics Review and the Role of Economics in Policy

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