MULTIPLE CHOICE QUESTIONS

1. Which farm organization was the first to lobby for anti-trust regulation?

c. National Grange (Ch 2 HS&AS: it is also simply the First farm organization)

2. Why does good weather mean less farm income?

d. final product demand is inelastic (prices fall more than sales rise)

3. Which of the following is definite evidence of a market failure?

d. environmental degradation costs are not included in costs of production (private ¹ social costs)

4. One farm uses 10 units of an input to produce 100 units of output. Another farm produces 1000 units of output using only 200 units of input. Which is the more productive farm?

b. smaller farm (10 output per unit input, larger farm gets only 5 per unit input)

5. If the price elasticity of demand in the market is 0.50, would farmers benefit or lose revenue from an NFO supply-withholding action that shifted supplies back by 10%?

c. revenue increases 10% (%chngR = -10% + 20%)

6. Which of the following statements is false?

d. higher market prices help small farmers in the long run (larger farmers always make more from this)

7. Which market failure is most likely the cause of relatively low farm incomes?

b. factor or resource immobility (farm income=opportunity cost of farmer labor)

8. A good is non-excludeable if

c. it is physically impossible to charge someone who benefits from it.

9. "The Principle of Collective Action is that the smaller, well-organized group, with the larger stakes per group member, is more likely to be effective at obtaining policy to serve it's own interest." (c.)

three ways to represent the derived demand for input "x" in production of output "y":

(a) Dx = -m×Px + B

(b) Dx = Py׶Qy/¶x

(c) Dx = VMPxy

x

10. (a) Dx = -m×Px + B B

P

x P

B

notice that these two graphs are the exact same thing--but in economics we

always have Price on the vertical axis.

11. The demand for input x (Dx) is (=) positively related to the price of output y (Py) and how the increment to total output declines as more input is employed (¶Qy/¶x)

(b) Dx = Py׶Qy/¶x

12. Which is useful for analyzing policies targeting producers of output 'y'?

best answer: (b) Dx = Py׶Qy/¶x

acceptable: (c) Dx = VMPxy

13. Which single policy caused the most problems for the U.S. farm sector?

a. tight monetary policy of 1979 and real interest rates of over 7%

ESSAY QUESTIONS

14. Which policy would be more effective at "helping small farmers earn a decent household income and still stay on their small farm."

Policy A: research and extension providing more efficient production techniques.

Policy B: projects guaranteed to expand rural non-farm employment opportunities.

(i) Description of Policy A: This is a developmental policy which attempts to raise net farm income by lowering the costs of inputs needed to produce a given level of output. This is achieved by public research to discover and extend more efficient production techniques, where efficiency is defined as lower inputs per output, thus lower costs per output.

From over one hundred thirty years of experience with such programs, we have learned that unless the technology is uniquely appropriate only for small operations, both small and large farmers will be able to make more net income, initially, if they adopt the new technologies. Since supplies cost less, market prices soon fall also. In fact, due to the inelasticity of the demand for food, prices fall farther than sales expand, so overall lower revenue is earned by all farmers. The inelasticity of demand is the reason for the treadmill: adopt new technology to raise net revenues; costs fall, prices fall, revenues fall, so-adopt new technologies to raise revenues,... Farmers who adopt early, however, gain revenues and can spend their profit to acquire additional land.

The demand for land to expand farm size to the larger minimum efficient scale will raise the prices of farmland. The benefits of such policies are thus bid into farm asset values (land prices). Notice that high-priced farmland becomes a barrier to entry-- making it very difficult to be a beginning farmer. (market failure: no freedom to enter/exit). Also, farm income is not affected at all, since farmer income is no higher than the income a farmer could get in the next best employment opportunity. In rural areas, the lack of alternative employment is a form of factor immobility: there simply aren't alternative jobs in rural areas. The market failure in this case is in the labor market, and it's impact is felt in the form of low rural household incomes regardless of whether one farms or not.

Any farmers who do not adopt the technology will be in a cost-price squeeze and will be better-off selling out. This is a process that generally works against the smaller farms, even though they are operating at the efficient scale (at Q for the minimum AC) simply because that level of activity is insufficient to support a household. Developmental policies have helped the USA, as a whole, become the most efficient at farming in the world, and such activities are very useful for maintaining a 'competitive advantage.' But a developmental policy will not keep small farmers on the farm.

(ii) Policy B: Raising the demand for off-farm employment in rural areas has a couple good effects. First, since almost all small farmers depend on off-farm income for the majority of their household income, the more jobs there are, the larger this off-farm income can be. This is particularly helpful for the small farmers who have both the time and the need to earn more income than they can with a small amount of land. Second, by raising the opportunity costs of farming in rural areas, all farmers must count this into their own total costs. In the long run, farm income from farming will be higher, too. Third, small farmers may even just work off-farm full-time, and lease out the farm land for additional income. They may not continue as farm operators, but they can "stay on their farms."

In sum, if rural development could be guaranteed, Policy B would be the more effective way to help small farmers earn a decent income while staying on their farms. (It's doubtful, however, that rural development can be guaranteed by just throwing money at rural areas.)

15. Consider the following scenario. Due to foreign demand, the market price of a feed rises to $500/ton. A livestock producer group, buying 1000 tons at P= $500; is considering lobbying for a price ceiling on the feed, set at the old price support level of $400/ton. They figure that the lower feed price would benefit livestock producers; while feed producers would be just as well-off, since the ceiling is set at the old price support level.

Your job is to analyze this proposal and to inform the livestock producer group. Is this a great idea, or what? Your data shows that feed producers would supply 500 tons if the price were reduced to $400; they'd put the rest in storage (or try to sell on a 'black market.') And livestock producers would be willing to pay $800 per ton for the first 500 tons.

(a) This is a terrible idea, no-one gains: both sides of the market lose! This results because of the elastic feed supply relative to an inelastic demand:

Digression on elasticity-- not needed to answer this exam question!

Supply elasticity %chngQS = 500/1000 = 1/2 => 5/2 = 2.5 => es > 1

%chngP = 100/500 = 1/5

Demand elasticity %chngQD = 500/1000 = 1/2 => 5/6 = 0.84 => eD < 1

%chngP = 300/500 = 3/5

$800/ton

A supply

$500

$400 C B price ceiling

demand

500 1000 tons

The first thing to note is that when feed prices are legally bound to a ceiling of $400, there will be 500 tons supplied but more than 1000 tons demanded. There will be a shortage at P=$400.

To livestock producers who are CONSUMERS in the feed market, they may be paying a lower price, but they get far less as well. The welfare loss or chngCS is illustrated by the lost area A plus the gain of area C.

Area A = -1/2 * (300)*(500) = - $75,000 (LOSS)

Area C = (100)*(500) + $50,000 gain

net chngCS -$25,000 loss for livestock producers!

The feed producers will be worse-off too! They get lower prices and can only supply the amount that those prices cover the costs of, 500 tons. Their welfare loss is the sum of areas B+C in the graph.

Area B = -1/2*(100)*(500) = -$25,000 (loss)

Area C = = -$50,000 (loss to producers/gained by consumers)

net chngPS -$75,000

TOTAL WELFARE = chngCS + chngPS = -$100,000 = -(A+B) OVERALL LOSSES!

Notice that A and B represent losses that are not gains for any group: "deadweight" losses. The overall welfare losses show up as lower GDP growth in the US economy.

WOW. This is really a mistaken idea. The livestock producers would surely rather NOT enact this policy, and by telling them the truth, they will be better off than if they had the policy by $25,000. That's how much they could afford to pay you for your helpful advice and be just as well off as if they had enacted the price ceiling policy. To earn that kind of money as a policy analyst, you've got to understand how the elasticities condition the outcome. Try the same problem, but this time, assume that the livestock producers are only willing to pay $600 for the first 500 tons. Calculate the demand elasticity for this case. Calculate the welfare effects of the price ceiling policy. The results for the livestock producers would be completely different.