Greshams School

Figure 1.0 Basic food increase in price Figure 1.1 Food prices increase sharply

ECONOMICS ESSAY
ESSAY TOPIC:

a) World food prices have increased sharply over the past five years

b) Food prices are best left to market forces

Government should intervene to control rising food prices

Dina Bijedic, L6IB

November 15th , 2013
 Part a: World food prices have increased sharply over the
past five years

It is estimated, by The United Nations Food and Agriculture

Organization that nearly 870.000.000 people around the world are
chronically hungry.1 This is great figure, because if there are about
7.1 billion people in the word, than one in nine is suffering from
chronic undernourishment. Before 2008, for almost thirty years, the
price of basic food has been relatively constant, not extremely high,
nor extremely low. But, that long period of stability finished in 2008.
Food prices have risen on average 75 % since the mid 2007 (as seen
in the figure 1.2). In less than a year (so in 2008) price of wheat has
doubled, as did the prices of milk and meat. That pattern continued
to manifest its growth, leading to sharp increase of food prices over

the last five years.

Strange is that sharply increasing food prices are occurring not

at a time of global scarcity, because now the worlds harvest is
largest on the record. But two reasons have identified for this new
phenomenon. The demand factor is concerned with the behavior of
buyers and their ability for buying various quantities of goods and
services. Demand can be affected by many factors, such as income,

1 "FAO.org." Food and Agriculture Organization of the United Nations. N.p., n.d. Web. 13 Nov. 2013.
<http://www.fao.org/home/en/>.

Figure 1.2 World Food Prices trend (2005- Figure 1.3 Percentage of undernourished in
2012) total population
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 price of other goods, expectations of future prices and change in
number of potential costumers. One of the crucial factors in the case
of global food prices is change in the number of potential customers,
price of other goods and of course income. But as the food is
inelastic good, no matter how high price for needed essential good
(food) is, people will simply have to buy it. The global demand is in
increase, as the continuous rise in the worlds population (as seen in
the figure 1.5) means that there are more mouths to feed. Especially
in the countries with rising middle class, with increasing incomes
and purchasing power, such as China and India. The wealthier you
are, the more you tempt to eat (consume). Incremental change in
diet in these two countries occurred, what translated into an
increasing demand for more meat in diet. This leaves an open
question: Will the global demand exceed supply?

Pric
e

D2
D1
D
Quantity demanded

Figure 1.4 Shifts in demand (from Figure 1.5 World population increase in
D-D1) developing and industrialized countries

Global demand will exceed supply, if quantity of good

demanded is greater than quantity supplied, and the difference is
called a shortage. Thus, as the demand increases rapidly, it does not
necessarily mean that supply is also going to increase by the same
amount. Supply indicates various quantities of goods (and services)

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 certain firm is willing and able to produce and supply to the market
for sale at different possible prices.2 As we assume that sellers are
profit maximizes, they will sell the product only if the price covers
the costs of production. And as the costs of production are higher,
so are the prices of the product, thus it is estimated that prices of
food are unlikely to return to previously lower levels.

Factors that affect supply are, among the others, costs of raw
materials, taxes, subsidies, level of labor costs, prices of related
goods, level of technology and innovation, and the conditions in
natural world. Conditions in the natural world affect, in particular,
agriculture and farming. For example, the Louisiana oil spill in 2010
resulted in a decrease in the supply of locally produced seafood. 3
Unstable and unusual weather patterns, such as draughts and
flooding, possibly caused by global warming, have impacted crops in
key food producing countries.

Pric
e

S
1

Quantity supplied
Figure 1.6 Supply diagram (supply
Figure 1.7 Air temperature increase (1960 shifting to the left)
2060)

Several factors contribute to sharp and quick rise in the food

prices all over the world, since 2008. One of them is that corn has

2 Tragakes, Ellie. Economics for the IB Diploma. Cambridge: Cambridge UP, 2009. Print.
3 Tragakes, Ellie. Economics for the IB Diploma. Cambridge: Cambridge UP, 2009. Print.

4
been prioritized over the other crops due to the worlds heavily
subsidized production of biofuels. Up to the quarter of the land used
to grow corn will be devoted to the ethanol production in the USA
from 2008. This situation benefits USA economy, but hurts
subsystems agriculture in developing countries. As the price of
wheat or rice begins to rise in market place, some countries impose
strict export control to try to preserve food for their own people. This
means less is available for export to those countries that rely on
food imports. The big question is who does this affect exactly. Right
now, it affects the most poor and venerable population groups, who
spent 50 80 % of their income on food.4

As with the changes in demand (demand shifts to the right)

and changes in supply (it shifts to the left), new equilibrium price
was set. Adjustment process to a new equilibrium price happened,
as the new equilibrium price is much greater than it was before, but
people continued to buy the food.

Could todays crises be tomorrows opportunity? Higher food

prices around the world might stimulate local agricultural production
in countries that highly depend on the imports. Maybe Governments
should urge that saving food is as important as saving energy. For
example, UKs Government report stated that food waste per year is
over 4 million tones, what costs hundreds of pounds per household.

Part b: Should the government or the market forces control

the food prices?

Increase in food prices impacts all people around the world.

The food prices directly influence the standard of living and as
higher there are, standard of living tends to be lower. Who should

4 "Food and Hunger." Food and Hunger. N.p., n.d. Web. 13 Nov. 2013. <http://crs.org/hunger/?gclid=CP2sw_-
f57oCFURc3god_SAAxg>.

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control the food prices? Should it be the government or should it be
the market forces?

Market is any kind of arrangement, where sellers of goods and

services and buyers meet to carry out an exchange. Being left to
market forces means that, forces of demand and supply are
representing the aggregate influence of self-interested buyers and
sellers on price and quantity of the goods and services offered in a
market.5
If the market is being left to market forces, there are some
possible advantages that might result from that decision. Relative
prices and changes in the price reflect the forces of demand and
supply and may help to solve the economic problem. Resources
move towards where they are in the shortest supply, relative to
demand, and away from where they are least demanded. In the
case of a shortage, the prices go up, as the demand is greater than
the supply. As the prices serve to ration scarce resources in such
situations, only those who are able to pay, get the product. But in a
market, price acts a rationing device to equate demand with supply.
Price mechanisms that encourage an incentive are positive affects
of market forces. Incentive motivates producer and consumer to
follow a course of action or to change behavior. 6 Higher prices
provide an incentive to existing producers to supply more because
they provide the possibility or more revenue and increased profits.
If prices were left to market forces, than they might have general
objections from governmental intervention. They might have
objections for the level of taxation imposed by the government and
possible higher opportunity costs.

If the government intervenes to control food prices, they can do so

5 "Demand and Supply." BusinessDictionary.com. N.p., n.d. Web. 13 Nov. 2013.

<http://www.businessdictionary.com/definition/demand-and-supply.html>.
6 "Rationing, Signalling and Incentives." N.p., n.d. Web. 13 Nov. 2013.
<http://www.economicsonline.co.uk/Competitive_markets/Rationing_and_incentives.html>.

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by fiscal policies, that includes indirect taxes, subsidies and price
controls.7 Indirect taxes are imposed on spending to buy goods and
services. They are paid partially by consumers, but are paid to the
government by producers. Indirect tax increases the relative price of
a product and should cause contraction of demand. The government
is intervening in the market because it wants to change the price
signals and incentives of producers and consumers. They want to fix
negative externalities.

Pric
e S+Tax

P2
S1
P1

D1
Q2 Q1
On the other hand, if Quantity supplied
government
imposes subsidies, it provides general
assistance to individuals or group of individuals, consumers or
industries. If the food prices are left to be decided by the
government, there are possible advantages for the residents of the
country. If the government imposes stable indirect taxes, then in the
market, prices will remain stable for producers and consumers of
goods and services. But on the other hand, most frequently
governments intervene to change the allocation of scarce resources
by competing uses. So as there is more supply on the one place,
and less on the other (in the world), it means that food supply is not
distributed equally, and so some parts of the world suffer from
serious hunger. As, in the some parts of the world, for example, in
Burundi, Africa, inadequate food supply, directly influences GDP,
health, education, and level of labor productivity.

In theory, if a government intervenes in the market for any

7 Tragakes, Ellie. Economics for the IB Diploma. Cambridge: Cambridge UP, 2009. Print. Tragakes, Ellie.
Economics for the IB Diploma. Cambridge: Cambridge UP, 2009. Print.

7
reason, efficiency usually decreases. This is because private firms,
who are profit seeking, must abide by government regulations which
may reduce their efficiency. On the other hand, if the government is
seeking to make food available in a system, at least to meet the
minimum needs, that it imposes equity. It improves equity by
taxation, welfare programs but also by regulating the markets in
order to reduce unfair practices.

WORD COUNT: 1200