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Spatial Price Analysis –Physical Balance Equilibrium. Markets and Prices in Agribusiness AG BM 420. Arbitrage effects. Prices adjust across regions Product is moved…… - PowerPoint PPT Presentation
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Spatial Price Analysis –Physical Balance Equilibrium
Markets and Prices in Agribusiness
AG BM 420
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
2
Arbitrage effects
Prices adjust across regions Product is moved……
We saw arbitrage results in an equilibrium condition a rule that always applies in competitive markets….that relate prices across prices.
Arbitrage forces structure on prices!
Pj = P1 + AC(Y1j )
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
3
Thinking in terms of economic geographyEconomics tells us how to find the boundaries of an economic region!
Supply Region
P1 =AC(Y1)
Pj = P1 + AC(Y1j )
Pk = P1 + AC(Y1k )
Trade past the green frontier is not profitable!
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
4
Spatial arbitrage – suppose there is a barrier to any trade
Source Region
Pj=AC(Yj)
Spatial arbitrage is not in equilibrium
Pi > Pj + AC(Yij )
Why is this a problem?
Region i would be paying more for the good then they need to if arbitrage were allowed…….Region i welfare would be reduced.
Region j could supply region i but can’t so region j has reduced welfare
Destination Region
Pi =AC(Yi)
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
5
Arbitrage forces physical balancePhysical balance is the rule that within a trading area
Excess demand = excess demand
Total demand = total supply
Prices adjust to make this happen
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
6
Physical balance equilibrium
Recall, for a single market, we said quantities must balance across supply sources and types of utilization
Suppose region i has excess supply @ trade price
Excess supply = Ysti - Yd
ti = Yxti exports
Suppose region j has excess demand @ trade price
Excess demand = Yd ti - Ys
ti = Ymti imports
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
7
Physical balance equilibrium
Excess supply = Ysti - Yd
ti = Yxti
Excess demand = Ydtj - Ys
tj = Ymtji
So since Exports = Imports
Yxti = Ym
tji
Excess supply = Ysti - Yd
ti
= Excess demand = Ydtj - Ys
tj
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
8
Physical balance equilibrium
Exports = Imports
Yxti = Ym
tji
Ysti - Yd
ti = Ydtj - Ys
tj
We can re-arrange collecting supply on one side….
Ysti + Ys
tj = Ydtj + Yd
ti
Total supply = Total Demand
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
9
Physical balance implications for pricesLet’s add prices, remember Pi and Pj ….affect
decisions……and lets ignore other drivers so
Ydti (Pit ) – Ys
ti (Pit )
= Ystj (Pjt ) - Yd
tj (Pjt )
Interpretation? Simple…. The prices in the two regions Pit and Pjt are jointly determined
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
10
Physical balance implications for pricesLet’s add other drivers so
Ydti (Pit ,Ijt ,Djt ) – Ys
ti (Pit ,Rjt ,Kjt)
= Ystj (Pjt ,Rjt ,Kjt) - Yd
tj (Pjt ,Ijt , Djt )
Interpretation? Simple…. The prices in the two regions Pit and Pjt are jointly determined by all the drivers affecting demand and supply in each region!
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
11
Spatial arbitrage – suppose
Excess Supply Region
Spatial arbitrage equilibrium condition
1) Pi = Pj + AC(Yij ) then product would be arbitraged from j to i
Physical balance condition across trading regions
2) Excess demandi (Pi )= excess supplyj ( Pj )
Excess Demand Region
Together, 1) & 2) Pi Pj Yij
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
12
Bottom-line
Arbitrage knits regions together binding the markets together such that
Physical balance is established
Ydti (Pit ,Ijt ,Djt ) – Ys
ti (Pit ,Rjt ,Kjt)
= Ystj (Pjt ,Rjt ,Kjt) - Yd
tj (Pjt ,Ijt , Djt )
Arbitrage equilibrium in price is established Pit = Pjt + ACijt
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
13
Important result
Stuff (drivers) in export region affects prices in import region, and vice versa!
Bad weather in Montana affects Montana hay price,…….but also the price of hay in PA!
Hurricane in Nawlins affect plywood prices there and also those in PA!
Unemployment in China affects hockey puck prices in the US
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
14
Practical implications
Suppose you run a dry cleaning business in Williamsport, PA 30 minutes from State College
Price for a shirt is low in Williamsport, and your plant has excess capacity
Price of a shirt is 26% higher in State College.Should you open a home pick/delivery route in State College?
At current prices? But what will happen to those prices as you shift service capacity to State College? What will happen to your Williamsport price if unemployment increases in State College?
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
15
Price determination
We need to determine two prices, so we need two equations and we have ‘em!
Physical balance is establishedExcess demand = Excess supply
1) Ydti (Pit ,Ijt ,Djt ) – Ys
ti (Pit ,Rjt ,Kjt)
= Ystj (Pjt ,Rjt ,Kjt) - Yd
tj (Pjt ,Ijt , Djt )
Arbitrage equilibrium in price is established2) Pi = Pj + ACij
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
16
In reality, spatial arbitrage involves multiple markets
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
17
Practical implicationsIncome increases in China excess demand for
CementPlywoodFlat screen tvsMotor scootersAutomobilesWheatSugar
China’s import demand increases increase exports from US Increased prices in the US
(c) R.D. Weaver AGBM 420
Markets and Prices in Agribusiness
18
Implications for your product market Identify the most important regional markets linked by
spatial arbitrage to your product’s market Set up a spreadsheet and collect & track
Supply & utilization quantity data for your market and each important spatially linked market
Prices for your product in your market & spatially linked markets Drivers of demand and supply in your market & spatially linked
markets
Why does Walmart have cashiers ask you for your zip code when you check out??