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Policies to Increase Price Elasticity of Supply of Agricultural Goods

Discuss the policies that a government might adopt to increase the price elasticity of supply of agricultural goods in an economy and consider which policy is likely to be most effective. [12]

Category:

Elasticity

[CIE AS level November 2016]

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Answer

Tip: The keyword here is ‘increase the price elasticity of supply’. Do NOT describe policies that might result in an increase supply i.e cause a one-off shift of the supply curve. You should instead consider policies that would increase the speed of response by suppliers to price changes.


Step ➊ : Define ‘price elasticity of supply’ in the introduction and briefly explain why PES is relevant in agricultural markets.


Price elasticity of supply is particularly relevant in agricultural markets. Price elasticity of supply (PES) measures of the responsiveness of quantity supplied to a change in price.

The formula for PES is as follows :

% change in quantity supplied

% change in price

For valid climatic and geographical reasons, it is often difficult and sometimes impossible for producers to increase crops or switch to more lucrative ones when price rises. Producers may not have the additional land, or conditions may not allow them to grow a crop when price has increased. For example, coffee growers in Brazil or tea growers in Kenya cannot suddenly switch to growing corn, irrespective of the increase in price of corn. Even if they could, it would take time and there would be the added risk that prices may well have fallen.

Consequently, the government may implement supply-side policies in an attempt to increase the price elasticity of supply of agricultural products. Free market supply-side policies involve policies to increase competitiveness and market efficiency. Several points must be considered before concluding which supply-side policy will be more effective.


Step ➋ : Discuss the policies the government can implement to increase the price elasticity of supply of agricultural goods

There are several measures the government can adopt to increase the PES of agricultural products

➤ 2.1. The government should encourage producers to keep sufficient stocks.

The government can directly provide better storage facilities for farmers in order to encourage them to keep sufficient stocks. This will enable businesses to increase their stocks (such as dried fruits and vegetables). The government can also provide better refrigeration facilities to make the storage of perishable agricultural goods (such as fruits and vegetables) easier. Furthermore the government can offer subsidies to farmers so that they can invest in better storage facilities.

If firms can stockpile goods, then they can easily respond to increases in demand and price. Helping businesses to build stock will increase PES.

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➤ 2.2. The government can provide training programmes in order to increase the availability of labour with appropriate skills.

Some firms producing agricultural goods such as ethanol or organic agricultural products may come across labour constraints, especially if the work requires skilled labour. For example, the supply of extra biofuels following a rise in demand may be limited by the ability to employ sufficiently skilled labour. Thus public and private employment training programs can be established by the government to allow workers to increase their occupational labour mobility by teaching them new skills.

If an agricultural firms have a good availability of labour, then it can easily respond to increases in demand and price for agricultural products.
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➤ 2.3. The government can employ measures to increase labour mobility and worker incentives.

The government can lower benefits and this may encourage the unemployed to take jobs that require low skills in agriculture. Free-movement of labour can also enable firms to fill labour shortages, particularly low-skilled jobs such as fruit picking.

Having a pool of labour readily available for work will help agricultural producers to respond quickly to price changes. For example, following a rise in the price and demand for apples, farmers will have the incentive to increase the supply of apples quickly and this is only achievable if more labour is readily available to pick more apples.

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➤ 2.4. The government could provide loans for capital investment.

Over time, of course, companies producing agricultural goods can increase their productive capacity by investing in more capital equipment, often taking advantage of technological advances. Government loans would encourage agricultural firms to invest in technology and better storage facilities for perishable goods.

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➤ 2.5. The government should provide subsidies to farmers.

A subsidy is an amount of money given directly to firms by the government to encourage production and consumption. Subsidies have the effect of increasing the revenues of producers. This encourages agricultural producers to increase their output. Thus, this higher output increases the levels of stock available. Consequently, there will an increase in the response of the quantity supplied to any change in price. There will be an increase in price elasticity of supply.

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➤ 2.6. The government should promote research and development activities.

The government may provide incentives for private sector firms to engage in research and development. For example, granting patents for the protection of new inventions such as better pesticides. This may encourage agricultural firms to find new farming methods.

Technological innovations such as greenhouses enable agricultural producers to supply certain out-of-season fruits and vegetables. Thus if the price of such goods rises, producers can respond more quickly as they do not have to depend on climatic conditions.

Better pesticides will make agricultural products more resistant to pest. Producers will be able to build more stock. The ability to keep perishable agricultural products longer will increase the speed of response by suppliers to price changes.

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➤ 2.7. The government could remove trade barriers and improve trade infrastructure.

This would improve the supply and distribution of agricultural goods from overseas. This might be particularly useful to quickly provide out of season products. This would increase the speed of response by suppliers to price changes.

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➤ 2.8. The government should increase its spending on infrastructure

Transport facilities such as roads and railways can be improved. This will reduce the transport time of agricultural goods which are often perishable. Better irrigation systems and telecommunications systems could also help farmers to improve the response of supplies to any given change in price.


Step ➌ : Discuss the effectiveness of policies to increase the price elasticity of supply of agricultural goods.


However, these policies to increase the price elasticity of supply of agricultural goods are not always effective.

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➤ 3.1. Some goods cannot be stored, e.g. food with short shelf-life like tomatoes and bananas. It can be difficult to further increase the shelf life of these products. Keeping excess stocks can be a disadvantage for perishable agricultural goods.

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➤ 3.2. Some policies, such as education spending and research and development are expensive and take a long time to take effect. They may not influence the economy for 20-30 years

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➤ 3.3. Providing subsidies, grants, loans and tax cuts to farmers is a burden on the government's budget. The government may have to run a budget deficit which may be damaging to the economy.

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➤ 3.4. It may take time for farmers to adapt to new technologies. Improving infrastructure and R&D activities are also very costly and the government may not be able to finance it. This is particularly the case in under-developed countries.


Step ➍ : Conclude which policy is more effective to increase the price elasticity of supply of agricultural goods.


To conclude, the best policy to improve the price elasticity of supply for agricultural goods would be to remove trade barriers and improve trade infrastructure. It will not be as costly as other policies such as tax incentives, grants, training and R&D. Furthermore, there will not be a long time lag. A country may readily import more fruits and vegetables if there is a price rise. For example, if there are bad climatic conditions in India leading to poor yields, agricultural goods can be readily imported from neighbouring countries where the weather is more favourable. There will be an overall significant increase in the price elasticity of supply.


♕ Mark Scheme


For analysis of at least two policies that might be adopted to increase elasticity of supply of agricultural products such as reduced import controls, subsidies and a range of supply side policies including training schemes to increase the supply of skilled labour and tax reductions to increase incentives. (Up to 8 marks)
For each policy explained (up to 4 marks)

Allow 1 mark for the identification of the policy and up to 3 marks for explaining how this could increase the price elasticity of supply.

If the candidate provides a list of policies without explanation 3 marks maximum for analysis. 8 marks maximum

For evaluative comment on the effectiveness of the policies explained. A concluding comment on which policy is likely to be most effective is essential for full marks. (Up to 4 marks)


♕ Examiner Report


It was expected that candidates would refer to the factors they had explained in part (a) that made supply price inelastic in their answers here. They should then analyse and assess the effectiveness of policies that might be adopted by governments to address these factors and make supply more elastic. For example, a lack of appropriate resources might be addressed through supply-side policies to increase the quantity of factors that could be used in production. This would allow businesses to respond more rapidly to price changes. Other policies were also appropriate such as improving the supply and distribution of products from overseas that could be achieved by removing trade barriers or improving infrastructure. Some candidates missed the point and instead described policies that might result in a one-off shift of the supply curve to the right rather than considering policies that would increase the speed of response by suppliers to price changes. As with the previous question, evaluative comment was limited here.

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