Buffer stocks

A buffer stock scheme attempts to stabilise price within an agreed range. Assume the range is set between A and B in the diagram below. If supply increases as a result of an unusually good harvest, the buffer ‘clicks in’. Stocks are bought, and stored and the price rises.

With a bad harvest stocks are released and the price falls.

There are other price stabilisation schemes, including guaranteed prices.

Buffer stocks can be criticised in that they can distort the effective working of markets, sending out 'faulty' signals to producers, encouraging them to over-produce. In addition, they create extra costs, including the costs of storage and stock administration. There may also be more effective alternatives to price and market stabilisation.

Buffer stock
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Unstable markets

Agricultural and other primary markets face several significant problems, which may require government intervention in the market. Instability results from the particular supply characteristics existing in these markets, including:

  1. Supply in the long run is relatively elastic – land can often be switched between crops depending on price fluctuations.
  2. However, supply in the short run is perfectly inelastic, given that it is difficult if not impossible to alter production during a growing or rearing season.
  3. Elasticity of supply
  4. In addition, these markets are susceptible to the impact of unpredictable shocks, including bad weather and disease.
  5. Finally, the assumption (at least in the past) was that small-scale famers and growers suffered from information failure as they fail to react rationally to market changes.

If we then assume that demand is relatively slow to adapt to such changes, we can see that the market can become unstable over time. Just a small supply shock can trigger an increasingly volatile reaction.

We can assume that the market starts at equilibrium at P and Q.

Buffer stock

A small shock will reduce short run supply to S1. The effect of this is to push up price to P1. At P1, farmers plan to increase output to S2, but the effect of this increased output is to push down price in the following year, to P2.

Buffer stock

At this lower price, farmers plan to cut back on production to S3. The impact of this is that prices move up and down to create instability. The interaction of demand, short-run and long-run supply forms the basis of the so-called cobweb theorem, first discussed by American Economist, Mordecai Ezekiel, in the 1930.

Buffer stock

This instability can cause the following problems:

  1. Unstable income for farmers and growers.
  2. Consumers find it difficult to plan their budgets.
  3. Producers refrain from allocating income to investment in new technology.
  4. Agricultural workers enter and leave the labour market as prices rise and fall.
  5. Wages are often kept low as farmers and growers look to keep costs low.
  6. National food supplies can fall, resulting in problems with ‘food security’.

Buffer stocks provide one solution to the problem. These schemes date back to at least the 7th century, when records show that China employed buffer stock schemes, but it is likely that such schemes go back much further. China used buffer stocks extensively during the 20th and 21st centuries, and it is suggested that the widespread use of such stocks has shielded China from the price instability that has affected the rest of the world.

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