EconomicThe Banana Industry - Essay Example

?Executive Summary Agriculture is an industry which can be understood by applying the demand and supply tools of competitive markets. The banana industry is an example of market that facilitates exchange between buyers and sellers of bananas. In a free market, price is set by the forces of supply and demand. Supply and demand of bananas in Australia is determined by several factors. Changes in any of the determinants of supply and demand will affect the equilibrium price of bananas that can create either a shortage or surplus. Recommendations That consumers consider minimizing their consumption of bananas and try looking for its substitutes until supply of bananas in the market is sufficient enough That banana growers and producers consider importation of bananas to address the shortage of bananas and to control its price from further rising That government implements farm programs that will include agricultural research on banana production and allocate farm subsidies for banana growers who were affected by the cyclone 1 Introduction Farm market like the market for Australia’s bananas is an example of market where the forces of supply and demand work. And just like any industry, Australia’s banana industry has already faced severe short-run problems like shortage in supply and the high price of banana. These were the main issues presented by the media reports that were used in this case study. This report will try to present an economic analysis of the problems encountered by both the consumers and producers of bananas in Australia as they were the key stakeholders impacted by the issues in this case. The concepts of supply, demand, price elasticity of demand and supply, and price instability of farm products were used to analyze this case. 2 Market Demand and Supply A market is an institution or mechanism that brings together the buyers and sellers of a particular good or product (McConnell and Stanley 2005, 47). The Australia’s banana market is an example of a farm market where buyers and sellers are both considered stakeholders. Buyers or consumers of bananas represent the demand side while the supply side is represented by the growers or producers of banana. 2.1 Demand Australians consume around 20 million cartons of bananas a year, which equates to one box per person per annum or 13kgs of bananas each (Drucker 2006, par.7). This means that this amount of bananas is also the amount that consumers or buyers are willing and able to buy at any price during a specific period of time or the demand (Mankiw 1997, 89). Price and the quantity demanded are inversely related as described by the Law of Demand. In this case, banana consumers who are willing and able to exchange their money to have their bananas, will buy more bananas at lower prices and tend to buy less when price is increased. This relationship is shown in Figure 1. Aside from price, there are other determinants of demand. The price and availability of related products is one that is applicable in this case study. With the shortage in banana caused by Cyclone Larry, consumers’ demand was unchanged as they failed to look for substitute for banana. In effect, they still buy bananas despite its high price. Figure 1. Demand curve D shows the inverse relationship between price P and quantity demanded Qd. 2.2 Supply Supply is the amount of particular goods or services that producers or sellers are willing to produce and make available for sale at a given price during a specified period of time (Mankiw 1997, 91). Law of Supply explains the direct relationship of price and quantity supplied. Industry group such as Growcom and the banana growers like Naomi King (Australian Broadcasting Corporation 2006, 1) will be willing to produce and sell more bananas when price in the market is high. For them, price is also another term for income. The normal or positive relationship between price and quantity supplied is shown in a supply curve like the one below. Figure 2. Supply curve S shows the direct relationship between price P and quantity supplied Qs Supply has also non-price determinants. In farm markets like the banana market, natural catastrophes like Cyclone Larry are considered. Cyclone Larry affected the banana supply in the market as it reduced banana production. The low banana production resulted to a shortage of bananas in the market pushing the price higher. 2.3 Equilibrium Price and Quantity In a free market, price is set by the forces of supply and demand. The equilibrium price or market clearing price is set at the point where the market demand meets the market supply (Schiller, 73). But aside from price, non-price determinants like natural catastrophes like Cyclone Larry may affect the market demand and supply. And any changes in the determinants will alter the equilibrium price. Around 90 percent of Australian banana production comes from the Innisfail and Tully areas, and banana production has fallen by this proportion as a result of Cyclone Larry (Drucker 2006, 6). Because of the reduced production caused by Cyclone Larry, the market was in disequilibrium. By looking at Figure 3, the fall in banana production from Q? to Q? caused the shift in supply curve from S? to S?. While demand was unchanged, a shortage was felt in the banana market because demand was greater than the supply. This situation pushed the price of banana from P? to P? which is above the equilibrium price P?. Figure 3. Shift in the Supply Curve 3.1 Inelastic Demands for Bananas In this case study, the short-run farm problem created by Cyclone Larry was also worsened by the inelastic demand for bananas. The basic determinant of elasticity of demand is the substitutability. That is when the price of a product falls; consumers tend to substitute that product for other product whose prices have not fallen. The problem with the Australian banana was that consumers were not able to look for its substitute. Australia does not allow banana imports because of the biosecurity risks in doing so (The Sydney Morning Herald,1). The capacity of an individual to substitute food for other products is subject to very real biological constraints. 3.2 Perfectly Inelastic Supply of Bananas The concept of price elasticity is also applicable to supply. The main determinant of price elasticity of supply is the amount of time which a producer has to respond to a given change in price of the product (McConnell and Stanley 1993, 114). In this case study, the market period is so short that the producers and growers of bananas cannot respond to the change in demand. As cyclone Larry have destroyed most of the banana plantations, it will take time for the growers to recover and change the supply of banana in the market. This cause the supply to be perfectly inelastic. 4.1 Fluctuations in Banana Productions and Prices Weather factors are beyond the control of banana growers yet they exert an important influence on banana production. The rising price of bananas is due to the shortage in supply created by Cyclone Larry. As farmers possess only limited control over their production, disasters like this one may mean poor crops or harvest. Poor harvest means lesser supply available to the market and lesser supply will mean higher demand. This situation will now create shortage of bananas. The instability of farm production can explain why farm prices are also unstable. Under normal conditions, 10,000,000 cartons of bananas would be marketed in the six months between now and November, but this year around 1,000,000 cartons will be available for sale (Drucker, par.8). The graph below shows the effects of good, poor and good banana productions on its prices. Figure 4. The Effects of Fluctuations in Banana Production on Its Prices Normal banana production N sets price at P? and quantity is Q?. However, with a poor harvest P, banana production will be marked at decreased quantity of Q? and price will be higher at P?. On the other hand, a good harvest G will give increased banana production at Q? but at lower price P?. 4.2 Income and Unemployment At lower banana production due to disasters like Cyclone Larry, incomes of growers are also reduced. And in cases like this one, it takes time for them to recover their losses. The impact is seen not only in the high price of farm products but also in the high rate of unemployment in the banana industry. Growers have already begun laying off workers, with job losses in north Queensland expected to be as high as 4,000 (The Age Company, 1). Mr. Patrick Leahy said he was hopeful that growers and workers would receive some help from the government (The Sydney Morning Herald, 1). 5 Conclusions The banana industry is better understood by applying the demand and supply tools of competitive markets. The concepts of supply and demand are very helpful in understanding the short-run farm problem like the rising prices of banana experienced in Australia due to its shortage in supply created by the Cyclone Larry. Aside from price, demand and supply of banana was also affected by other factors like availability of substitutes for bananas and the natural catastrophes like cyclones which are beyond the banana growers’ control. Both consumers and producers felt the impact of fluctuations in banana production because prices of banana, growers’ or producers’ incomes and industry’s employment are all affected by it. Recommendations That consumers consider minimizing their consumption of bananas and try looking for its substitutes until supply of bananas in the market is sufficient enough That banana growers and producers consider importation of bananas to address the shortage of bananas and to control its price from further rising That government implements farm programs that will include agricultural research on banana production and allocate farm subsidies for banana growers who were affected by the cyclone Larry Bibliography Australian Broadcasting Corporation. "Crops wiped out in cyclone." 20 March 2006. Australian Broadcasting Corporation. 28 July 2010 . Drucker, Andrew. Buyer pain as market determines banana prices. Media Release. Sidney: Australian Banana Promotions Company, 2006. Mankiw, N. Gregory. Macroeconomics. New York: Worth Publishers, 1997. McConnell, Campbell and Brue Stanley. Microeconomics:Principles, Problems And Policies . New York: McGraw-Hill Inc., 1993. McConnell, Campbell and Stanley Brue. Macroeconomics: Principles, Problems and Policies. New York: McGraw-Hill Companies, Inc. , 2005. Miller, Roger LeRoy. Economics Today: The Micro View. Boston: Pearson Education Inc., 2004. Schiller, Bradley R. The Micro Economy Today. New York: McGraw-Hill, 2006. The Age Company. "Banana prices to double after crop devastation." 21 March 2006. The Age Company. 28 July 2010 . The Sydney Morning Herald. "Cyclone devastates Australia's banana crop." 20 March 2006. The Sydney Morning Herald. 28 July 2010 . Williams, Matt. "Cyclone Larry Banana prices expected to hit $10kg; Evacuation plan to tackle shelter crisis." 30 March 2006. EBSCOhost. 28 July 2010 . Read More