The purpose of this framework is to investigate the changes of international prices of wheat during the period from the year 2000 to 2015. Characteristics of the market economy, such as demand and supply, may be considered on their own, independently from each other only in a theoretical example. In terms of the real economy, they are interconnected through the price mechanism which in turn may have a number of provisions connected. The food crisis speaks true about the fundamental factors that were clearly responsible for keeping the price of cereals at $117 in 2000 and trade factors pushing the prices to $295 per metric ton in 2008.
First consider the situation; there is a product in the market to which the price is set at a level such that the portion of the product cannot be realized. In the graph shown below, it is a region lying above O point between the curves of supply and demand. In this case, the result of high prices is the formation of an excess of the product or available in oversupply. Such a state cannot exist for a long time, since an excess of goods leads to the need to reduce prices.
The following situation: obviously, the high price of goods as a result of competition will inevitably go down, because the price is unsustainable. However, if the price of the product falls too low, there will be a shortage, which will characterize by the excess of demand for the product. It is an area located below O point between the curves of supply and demand shown in the graph below. Now, competition between buyers will raise the price of the product. This price will be increased as long as the market does not have a situation when the quantity of goods which entrepreneurs are willing and able to produce and offer to the market, will be equal to the amount that consumers are willing and able to buy. As a result, there is no shortage or surplus of goods sold at a given price at which equilibrium occurs. The price appears, balancing between supply and demand, which called a market equilibrium price or market clearing price.
The establishment of the equilibrium price in a competitive market takes place under the influence of a change in trends in both demand and supply. The equilibrium market price is set as a cash equivalent to supply and demand. It’s equalized by the impact of the competitive market environment. Clarity, market equilibrium can be demonstrated with the help of the graph below.
Classical supply and demand graph
The demand curve d and the supply curve intersect at point O. The area which lays above O it has a surplus and region lying below O characterized by the deficit of the offered goods. The ability of the competitive forces of supply and demand set the price level at which decisions on the sale and purchase are synchronized, called the balancing function of the prices. Changes in supply and demand to food products is most often associated with the price along with factors such as drought, slowing yield growth, low stocks, macroeconomics imbalances, rising oil prices and export restrictions. In a stable economy the prices at which goods are sold a lot, changed a bit slowly for a long time remaining unchanged. Prices may also change rapidly due to speculations.
Wheat is mainly produced in temperate regions, and while it is also used to produce meat products. USA, EU, Canada, Australia, Argentina, the Russian Federation, Ukraine, and Kazakhstan are main Wheat producing and exporting countries. (FAO, ). Wheat is produce in richer countries as well as meat consumption is also high in those countries. The increased prices of the wheat have influenced several countries, mostly for poor and importing countries. To reduce the influence and protect their domestic markets produces have applied export restrictions and impose tariffs. But, these restrictions have reduced the amount of traded profit internationally, which has caused the price of wheat increases in the international market (Abbott et al., ). After the 2006–2008 years food crisis, the price levels of wheat decreased, but it will not go back to their previous levels.
From the years 2006 to 2008, the world face unexpected price increases in major agricultural commodities such as wheat and rice (Dethier and Effenberger, ). This price spike brought the interest in agricultural commodities since they are highly connected to food security, mainly in developing and underdeveloped countries. Developed countries were also affected because price spikes adversely affect the welfare of producers and consumers. The price formation of agricultural commodities is mainly determined by the variation of the market basis, which are the supply and demand.
Following Gilbert and Morgan (), natural disaster caused by weather conditions or diseases and the area harvested are the main factors that affect the production. Moreover, technological changes are a key driver of the quantity produced. Similarly, consumption varies due to changes in income levels or, in the prices of substitute goods, or because of changes in tastes. The given production and consumption impact reflects into the formation of prices depends on supply and demand elasticity, which translate the responsiveness of producers and consumers to price changes. The supply and demand price elasticity are low in the short-run (during the harvesting period), particularly if the stocks of agricultural products are low (Wright and Williams, ; Deaton and Laroque, ). Other than from market rules, rash changes in policy (Christiaensen, ), input price changes, change in exchange rates, and trading pattern changes as well as consideration, affect the price (Interagency Report,; Gilbert and Morgan, ). In addition, the ever strong relationship between agricultural commodities and energy prices (oil and biofuels) will continue to tie up them together, while the effect of macroeconomic rules should not be consider (OECD, ).
Resetting of price in 2008:
The panic buying from the countries came to a halt when there were enough indications that there is a record harvest and that supply was unlikely to be a constraint. Oil exporting too understood that prices could not last forever and were reluctant to buy at such inflated prices. The market was further calmed when Japan was permitted to re-export some of its rice stocks. In late May price declined further as trade restrictions eased, other commodities prices fell, and the dollar strengthened. Speculative hoarding that was at play gradually disappeared as speculators realized that prices could not continue to rise. The invisible hand that caused havoc slowly was allowed to take the back seat putting the price mechanism in the front place.
The situation is illustrated on the diagram below.
The increase in demand contributes to the shift of demand curve to the right. Specifically, the amount required to market products of this type at each price level increased. If the market price will remain for some time at the former equilibrium level, there will be a deficit because the amount of the demand increase from q1 to q2, and the supply remains on the same level.
2. Demand shifts to the right
By looking the wheat price graph, we can see there were shocks in the wheat market of demand and supply. While improved harvesting technologies have positively increased production, the continuing de-investment in the farming sector has resulted in reduced utilization of the potential ability of the agricultural economic resources. The continuous increasing population and the increasing the biofuels market have put pressure on the demand of wheat.
The global food crisis rejuvenated the concepts how trade shocks can be devastating despite having a strong economic fundamentals. The practice of discretionary trade still prevails in most of the so-called market economies always keeping the door open for speculations.
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