The article I have chosen for this assignment, which was released on 24th September 2017, concerns the shortage of vegetables, mainly tomatoes, in Islamabad, Pakistan. This report explicates how economic principles are applied in real-life scenarios. It also gives us an insight to how the prices of vegetables in Pakistan’s economy is determined by market forces of demand and supply.
Due to the ending of tomato season in Quetta and Kabul, there has been a heavy reduction in the supply of tomatoes which led to a huge increase in prices. Prices of tomatoes had doubled, from what used to be Rs 80-100 per kg to Rs 200 per kg. There is a daily demand of 35 to 40 trucks of tomatoes in twin cities, Islamabad and Rawalpindi. However, there are only 2 to 3 trucks of tomatoes arriving daily.
Not only is there a shortage of tomatoes, there is also a lack of supply of onions and potatoes. Moreover, retailers are selling the tomatoes at a higher price, as they have a short shelf life of 4 days. This is to help them recover the losses in cases where they do not have access to cold storage. Prices of lemon and ginger has also doubled in prices. Complimentary vegetables such as coriander leaves, and green chillies are now sold at Rs 20 to 30 for 100 grams.
The upward trend in these vegetable prices has made it unaffordable for many citizens. Buyers refrain from buying in large quantities and do not buy more than half a kilogram of tomatoes at a time.
The law of demand states that as the price of a commodity increases, the quantity demanded for that commodity will decrease, ceteris paribus (Vengedasalam and Madhavan, 2007, p.26). Ceteris paribus means that all other variables are held constant when comparing two variables, which are price of the good and quantity demanded. The law of demand is affected by two factors, the substitution effect and the income effect. This can be related to the article in terms of the demand for vegetables.
Buyers are buying tomatoes in small amounts, while some just exclude them from their shopping list. This shows that the increase in price has decreased the quantity demanded of tomatoes, which is in accordance with the law of demand. The decrease in quantity demanded is affected by both the income effect and substitution effect. Due to the rise in prices, consumers must give up other goods to afford buying the tomatoes, which now takes up a bigger proportion of their income. The substitution effect plays a role in the decrease in quantity demanded, as buyers have the incentive to substitute tomatoes with other vegetables that are now relatively cheaper.
PART 2
Scarcity can be defined as the state where an amount of commodity available is insufficient to satisfy the desire of it (Vengedasalam and Madhavan, 2007, p.3). This article is a great illustration of the scarcity of vegetables. For instance, there are not enough tomatoes to meet the demands of consumers in Pakistan.
Supply is defined as the total amount of a commodity that producers are willing and able to produce and make available for sell in the market (Investopedia, 2003). The supply of tomatoes in Islamabad and Rawalpindi comes from India, Quetta in Pakistan, and Kabul, capital of Afghanistan. Based on the article, there has been a huge decrease in supply of tomatoes from India. This is because the government of India had stopped the import of tomatoes from India due to its high prices. The government also aims to encourage local farmers and save foreign exchange for Pakistan (The Hindu, 2017). Thus, Pakistan experiences a decrease in the supply of tomatoes. This is affected by two determinants of supply, being the prices of inputs, and the number of sellers.
The price of tomatoes from India had risen which decreases the profitability of selling the good. Therefore, retailers will choose to sell less tomatoes. Secondly, the discontinuation of import of tomatoes from India decreases the number of suppliers of tomatoes. Moreover, the ending of season in Quetta and Kabul further diminishes the supply of tomatoes. These factors contribute to a decrease in supply of tomatoes in Pakistan, causing the supply curve to shift to the left.
Market Equilibrium
Market equilibrium is the state where the quantity demanded is equal to the quantity supplied (Bade and Parkin, 2015, p.83). The market equilibrium can be obtained by putting demand and supply together. A disequilibrium will either be due to a market surplus, where there is excess supply or a market shortage, where there is excess demand.
This article concerns market shortage of tomatoes in Islamabad, Pakistan. Market shortage occurs when the quantity demanded for a good, in this case, tomatoes, exceeds the available supply (Investopedia, 2010). The 2 to 3 trucks of tomatoes supplied to Islamabad and Rawalpindi is not sufficient to meet the demands of consumers, which is 35 to 40 trucks daily. There is a market shortage, or excess demand, of more than 30 trucks of tomatoes.
When the tomatoes are sold at Rs 80 per kg, the quantity demanded exceeds the quantity supplied as consumers are encouraged to buy more than is available. Ideally, retailers would increase both quantity supplied, whilst increasing the prices of tomatoes. This aims to eliminate the shortage, as the tomatoes will become unaffordable to some buyers. At the same time, the increase in quantity supplied satisfies the wants of other consumers who are willing to pay a higher price for the tomatoes. However, in Pakistan, there is a limit to the supply of tomatoes due to the ending of tomato season. Thus, there is a drastic increase in price, of more than 200%, to compensate for the unavailability of supply of tomatoes. This results in a new market equilibrium, with a new price and quantity equilibrium.
The figure on the left shows the sketch of a graph of market equilibrium obtained from combining the demand and supply curve of tomatoes in Islamabad. The decrease in supply shifts the supply curve to the left, from S_(1 )to S_2. This causes a shortage of tomatoes which causes disequilibrium in the market. Thus, retailers increase the price from Rs 80 per kg to Rs 200 per kg to eliminate the shortage. This is shown on the graph as the rise in price from P_1, Rs 80 per kg, to P_2, Rs 200 per kg. The quantity demanded decreases from Q_1 to Q_2. The new market equilibrium, E_2, will eventually be achieved.
Price Elasticity of Demand
Price elasticity of demand, E_d, measures the degree of responsiveness of consumers to a change in price (Tucker, 2011, p. 130). The price elasticity of demand can be calculated by using the midpoint formula, which compares the percentage change in the quantity demanded with the percentage change in price.
price elasticity of demand= (percentage change in quantity demanded)/(percentage change in price)
An elastic demand is when the percentage change in the quantity demanded exceeds the percentage change in price. On the other hand, an inelastic demand occurs when the percentage change in the quantity demanded is less than the percentage change in price. The price elasticity of demand is affected by seven factors. They are the passage of time, the type of good, the availability of substitutes, if the good is subject to habitual consumption, peak and off-peak demand, the definition of a good and service, and lastly, the portion of the good in a consumer’s budget.
From the article, it is evident that the type of goods affects the price elasticity of demand. The type of goods depends on whether the good is a necessity or luxury. The article had stated that tomatoes and onions are considered an essential part of Pakistani foods. Furthermore, retailers sell tomatoes which have a short shelf life at high prices to recover losses, knowing that there will still be a demand for it. These proves that tomatoes are a necessity to the citizens in Pakistan, making the demand for tomatoes inelastic. ‘
The proportion of income also affects the price elasticity of demand for tomatoes. Holding all other factors constant, the greater the proportion of the price of a good in your budget, the greater the elasticity of demand for it (Bajada, 2012). From the article, the price of tomatoes, which experienced a 250% increase in price causes the demand for it to be more elastic. At Rs 80 per kg, consumers were willing to buy the tomatoes. However, at Rs 200 per kg, consumers are reluctant to buy tomatoes, and refrain from buying in large quantities.
Cross Elasticity of Demand
Cross elasticity of demand measures the sensitiveness of the demand for a good to a change in the price of a substitute or complement when other things remain the same (Bade and Parkin, 2015, p.129). Cross elasticity of demand can be calculated using the formula below.
cross elasticity of demand= (percentage change in quantity demanded of a good)/(percenage change in price of one of its substitutes or complements)
Substitutes are goods that have the same function, and can replace each other. Substitutes have a positive relationship, where the quantity demanded of a good and the price of its substitutes change in the same direction. Coffee and tea are substitutes of each other. A rise in prices of coffee encourages consumers to substitute it with tea, which is now a cheaper alternative.
Complements on the other hand, have a negative relationship. Complements are products that are bought or used together. A decrease in the price of a complement will cause an increase in the quantity demanded of the good. Coffees and cupcakes which are usually purchased together are complements of each other. Thus, the increase in the price of coffee will cause a decrease in the quantity demanded of cupcakes.
Tomatoes and other vegetables are substitutes, and thus, have a positive relationship. The huge increase in the prices of tomatoes leads to an increase in the quantity demanded of its substitutes. The article had indicated that prices of other vegetables, such as lemon, ginger, coriander leaves, and green chillies has soared. Retailers can afford to do this as there is an increase in demand for these vegetables (substitutes of tomatoes) due to the increase in price of tomatoes and onions. The price of tomatoes had increased from Rs 80 per kg to Rs 200 per kg, which makes its’ substitutes more affordable to consumers. Thus, retailers raised prices of coriander and green chillies to over Rs 30 for 100 grams.