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Chapter 15: The Farm Problem
Solutions Manual
Learning Objectives for Chapter 1
After reading this chapter, you should know
LO 15-01. What makes the farm business different from others.
LO 15-02. Some mechanisms used to prop up farm prices and incomes.
LO 15-03. How subsidies affect farm prices, output, and incomes.
Questions for Discussio
1. Would the U.S. economy be better off without government intervention in agriculture?
Who would benefit? Who would lose? (LO 15-03)
2. Are large price movements inevitable in agricultural markets? What other mechanisms
might be used to limit such movement? (LO 15-01)
3. Why doesn’t the United States just give its crop surpluses to poor countries? What
problems might such an approach create? (LO 15-03)
4. Farmers can eliminate the uncertainties of fluctuating crop prices by selling their crops in
futures markets (agreeing to a fixed price for crops to be delivered in the future). Who
gains or loses from this practice? (LO 15-02)
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© 2016 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
5. How do farmers of unsubsidized crops survive and thrive (News, p. 335)? (LO 15-02)
6. You need a government permit (allotment) to grow tobacco. Who gains or loses from such
regulation? (LO 15-02)
7. Why are the price and income elasticities for food so low? (LO 15-01)
8. How have farmers increased milk production per cow so much (p. 323)? How does this
affect milk prices? (LO 15-01)
9. What changes to farm subsidies were included in the 2014 Farm Act (Google the news)?
Did they move farmers closer to free markets or not? (LO 15-02)
Answer: http://www.usda.gov/documents/usda-2014-farm-bill-highlights.pdf
Problem
1. Suppose the market price of corn is $1.50 per bushel.
(a) Would a farmer sell corn to the market or to the government (CCC)? (See Table 15.2.)
(b) If the market price rose to $2, what would the farmer do with his corn? (LO 15-02)
Answers:
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© 2016 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
Feedback:
(a) The Commodity Credit Corporation (CCC) lends money to farmers at fixed “loan
(b) If the market price rose to $2, the farmer would sell the corn to the market. This new
2. Suppose that consumers’ incomes increase 12 percent, which results in a 0.6 percent
increase in consumption of farm goods at current prices. What is the income elasticity of
demand for farm goods? (LO 15-01)
Feedback: Income elasticity of demand is the percentage change in quantity demanded
3. Assume that the unregulated supply schedule for milk is the following:
Price (per pound) 5¢7¢9¢ 11¢ 13¢
Quantity supplied
(billions of pounds per year) 43 53 63 73 83
(a) Draw the supply and demand curves for milk, assuming that the demand for milk is
perfectly inelastic and consumers will buy 53 billion pounds of it. What is the equilibrium
price?
(b) Suppose that the farmers’ response to the government’s offer to pay them for not
producing milk results in the following supply schedule:
Price (per pound) 5¢7¢9¢ 11¢ 13¢
Quantity supplied
(billions of pounds per year) 23 33 43 53 63
(c) Draw this new supply curve on the same set of axes as the supply curve prior to the
government’s action. What is the equilibrium price following the government’s action?
(d) How much more money would consumers pay for the 53 billion pounds of milk
because of the higher equilibrium price?
(e) Shade the area in your diagram that represents how much more consumers will pay
because of the government-sponsored cutbacks. (LO 15-03)
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© 2016 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
Feedback:
(a) Graph supply by plotting each price–quantity combination given. In this problem
(b) The demand curve remains unchanged. When the government offers to pay farmers for
(c) Since demand is perfectly inelastic, this increase in price does not change the
(d) The black box on the diagram above represents the increased cost to consumers. Note
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© 2016 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
4. Suppose there are 100 grain farmers, each with identical cost structures as shown in the
following table:
Production Costs (per Farm) Demand
Output Total Cost Price Quantity Demanded
(Bushels per Day) (per Day) (per Bushel) (Bushels per Day)
0 $5 $1 600
1 7 2 500
2 10 3 400
3 14 4 300
4 19 5 200
5 25 6 100
6 33 7 50
Under these circumstances, graph the market supply and demand.
(a) What is the equilibrium price for grain?
(b) How much grain will be produced at the equilibrium price?
(c) How much total profit will each farmer earn at that price?
(d) If the government gives farmers a cost subsidy equal to $1 a bushel, what will happen
to
(i) Output?
(ii) Price?
(iii) Profit?
(e) What will happen to total output if the government additionally guarantees a price of
$5 per bushel?
(f) What price is required to sell this output?
(g) What is the cost to the government in (d)?
(h) Show your answers on the accompanying graph. (LO 15-03)
Answers:
(a) $4.
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© 2016 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
Feedback:
(a)
Remember that the marginal cost curve is equal to the supply curve for a perfectly
competitive firm. Equilibrium is attained at the point where quantity demanded is equal to
quantity supplied. This occurs at a price of $4 according to the table.
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© 2016 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
Quantity
supplied with
$5 price
guarantee
Surplus from
$5 price
support
Price required
to sell 400
units of output
(b) The point at which quantity supplied is equal to quantity demanded is the equilibrium
(c) Profit for each farmer is total revenue minus total cost. At equilibrium, total revenue is
(d)(i) If the government provides farmers with a cost subsidy of $1 per bushel, then in
(ii) The equilibrium output of 350 bushels is coupled with the equilibrium price of $3.50.
(iii) Profit for each farmer is total revenue minus total cost. At the cost-subsidized
(e) A government-guaranteed price of $5.00 encourages farmers to increase production up
(f) According to the given demand schedule, the price associated with a quantity
(g) If the government provides farmers with a cost subsidy of $1 per bushel and 350
(h) When the government guarantees a price of $5.00, the quantity supplied is 400, while
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© 2016 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any
manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
