Market Price 6 Buffer Stocks Scheme

8/12/2019 Market Price 6 Buffer Stocks Scheme

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BUFFER STOCKS SCHEME

• Students should be able to apply the conceptof government intervention in the form of

buffer stocks that seeks to stabilise prices and

incomes in agricultural markets

Any exam Q on price

stability requires this

theory



What is a buffer stock?

• Many farmers of primary commodities face theproblems of volatile prices and incomes

• Buffer stock schemes seek to stabilise the

market price of agricultural products by buyingup supplies of the product when harvests are

plentiful and selling stocks of the product onto

the market when supplies are low



Price volatility: Copper

Spot price each day on the London Metal Exchange

World Price of Copper

Source: Reuters EcoWin

Jan

03

Mar May Jul Sep Nov Jan

04


05


06

Mar May Jul

U S d

o l l a r s p e r t o n n e

o f c o p p

e r

1000

2000

3000

4000

5000

6000

7000

8000

9000

Describe the changein price over the 4

year period

What has beenthe % change?

Is this a stableor unstable

market?



Price volatility: Rubber

Daily closing price in the New York Exchanges, US cents per lb

World Rubber Price

Source: Reuters EcoWin

00 01 02 03 04 05 06

U S c / l b s

20

30

40

50

60

70

80

90

100

110

120

130

140

Describe the changein price over the 6

year period

What has beenthe % change?

Is this a stableor unstable

market?



Commodities prices…

•Producing commodities such as coffee, cotton ortobacco for the international markets is a hazardousbusiness.

• Commodity markets are characterised by instabilityand uncertainty.

• This uncertainty may arise due to

fluctuations in the market prices due to market conditionschanging

changes in prices due to changes in exchange rates

changes in foreign government protectionist measures



Examples of buffer stock schemes

• Cotton Price Stabilization

Board

• International Coffee

Agreement

• International Tin Council

Coffee beans!

http://images.google.co.uk/imgres?imgurl=http://www.smh.com.au/ffximage/2004/08/09/coffeeberries_wideweb__430x267.jpg&imgrefurl=http://www.smh.com.au/articles/2004/08/09/1092022401051.html%3Ffrom%3Dstorylhs&h=267&w=430&sz=19&hl=en&start=34&tbnid=Ez1C6Z_lFY7avM:&tbnh=78&tbnw=126&prev=/images%3Fq%3Dcoffee%2Bplantation%26start%3D18%26gbv%3D2%26ndsp%3D18%26svnum%3D10%26hl%3Den%26sa%3DN

http://www.dustydavis.com/blogimages/mississippi_cotton_large.jpg



Draw a Demand and Supply diagramfor coffee commodity rather than starbucks!

• Show a ‘shock’ to the market – what would happen ifthere was a coffee ‘mite’?

• Show the immediate reaction?

• How would ‘business’ consumers react?

• How would the supplier react to this?

• So what do you think might happen in the nextseason?



Buffer Zone

in diagrams



Price support in a buffer stock

Price

Quantity

Demand

Supply

P min

Q1

Pe

Price Floor

(Guaranteed)

Q2

• Thegovernmentoffers aguaranteedminimum price(P min) to

farmers ofwheat.

• The price floor

is set abovethe normalfree marketequilibriumprice.




Price

Quantity

Demand

Supply

P min

Q1

Pe

Price Floor

(Guaranteed)

Q2

•

If thegovernment is

to maintain the

guaranteed

price at P min,

then it mustbuy up the

excess supply

(Q2-Q1) and

put these

purchases intointervention

storage.




Price

Quantity

Demand

Supply

P min

Q1

Pe

Price Floor

(Guaranteed)

Q2

Intervention

purchases required

to keep the price atPmin




Price

Quantity

Demand

Supply

P min

Q1

Pe

Price Floor

(Guaranteed)

Q2

Total spending on

intervention by the

buffer stock = Pmin

x (Q2-Q1)



Question W02:

• Q16 • The diagram shows the

market supply and demand

curves for a particular

agricultural product. The

government allows the market

price paid by consumers to be

freely determined by demand

and supply, but guarantees

producers a price of OP2.

• Which area in the diagram

represents the total subsidy

payments made by the

government to producers?A w + y + z

B y + z

C x

D x + y +z

Answer: D



Rising supply – more intervention

Price

Quantity

Demand

Supply

P min

Q1

Pe

Price Floor

(Guaranteed)

Q3Q2

S2

P2

Q4

How muchwould the‘market

buy?

How muchwould Govt

buy?



Does it really work?



Consider this diagram

Max

Min



Your Q’s….

• What would happen is supply curve shiftsbetween S2, S3 and S4?

• What would happen if there was a supply

shock to cause S5?

• What would happen if there was a supply

shock to cause S1?



Consider this diagram

Max

Min



The answers!

•In the diagram shifts in the supply curve between S2,S3 and S4 will only result in the price changingbetween the acceptable price band.

• If a supply shock causes the supply curve to shift to

the right to S5 then the buffer stock authority willintervene and purchase the surplus Q4-Q5 thuspreventing the market clearing by itself through alowering of the equilibrium market price to P1.

• If the supply curve shifted to the left then the bufferstock authority would release stocks equal to Q1-Q2 on to the market thus preventing the price risingto P4.



Question S03:

18 In the diagram, S1S1 andDD represent the original

supply and demand curves for

an agricultural product.

• Bad weather then reduces

supply to S2S2. The

government does not allowthe price to rise above OP1.

• How much of the product will

the government have to

supply from a buffer stock if

demand is to be met?

A OQ1

B Q1Q3C Q1Q2

D Q2Q3 Answer: B. At P1, there is a

shortage of Q1Q3.



What can you do with surplus stock?

• In the case where the surplus is bought thereare number of options that can happen to the

stock

• It can be stored

• It can be destroyed

• It can be sold to other countries

• It can be given as overseas assistance.

What are the

implicationsof each of

these?



Implications of stock surplus…

• Storage is expensive and involves an opportunitycosts of the storage facilities.

• Destroying surpluses especially if the surplus is a

food is morally questionable in a world devastated by

poverty and hunger.

• Selling to other countries at low prices or dumping

can undermine domestic producers in the countries

where the goods are sold.• Giving the food as aid could, it is argued, lead to a

dependency culture.



Problems with buffer stocks

• Setting up a buffer stock scheme requires asignificant amount of start up capital, since

money is needed to buy up the product when

prices are low. There are also high administrative

and storage costs to be considered.

• The success of a buffer stock scheme however

ultimately depends on the ability of those

managing a scheme to correctly estimate theaverage price of the product over a period of

time



Problems with buffer stocks

• If the target price is significantly above thecorrect average price then the organization

will find itself buying more produce than it is

selling and it will eventually run out of money

• Conversely if the target price is too low then

the organization will often find the price rising

above the boundary, it will end up selling

more than it is buying and will eventually run

out of stocks

Market Price 6 Buffer Stocks Scheme

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