The market for coffee is not perfectly competitive, but it is very close. The conditions of perfect competition are that there are many sellers and buyers, the products are similar in nature, and that there are few barriers to entry for new producers, and that prices are determined by supply and demand (Investopedia, 2011). While there are many buyers and sellers, the buyers are often significantly larger than the sellers, so there is some bargaining power in the market. The products are roughly similar in nature although there are some differences in the two main coffee types (arabica and robusta) and between the product of specific farmers, as evidenced by the emergence of single origin or organic coffees. Additionally, coffee has a limited geography of production, placing a constraint on the degree to which coffee production can be increased in response to demand. This is a barrier to entry — England cannot enter the coffee market, for example. The market, however, is controlled by supply and demand.
Thus, the conditions for perfect competition are not met in the coffee market. The most important consideration that affects the market is the barriers to entry and exit. Only a limited number of nations can produce coffee, and this barrier to entry creates a ceiling on coffee production. Similarly, there is a floor on coffee production to some extent. The land on which coffee grows — on tropical mountainsides — is not necessarily good land for growing other commodities. Farmers who grow coffee, therefore, cannot exit the market without sacrificing their ability to earn a living. Thus, one or two seasons of difficult economic conditions may not be enough for the supply in the market to adjust to new market conditions.
Starbucks’ argument that higher prices paid to growers will increase the glut is accurate. The coffee market is in a state of constant surplus, which means that some producers need to exit the market. If Starbucks pays higher prices to farmers, that will only encourage more farmers to enter the market. As a result, the glut will become worse.
The coffee growers are currently operating at a position of economic loss. There is too much production, and the high exit barriers in the coffee industry imply that this condition could hold for an extended period of time. They are producing beans for 80 cents per pound and selling them for 50 cents per pound. Some producers would need to exit the market, or demand would need to increase, in order for the coffee growers to operate at a position of zero economic profit.
Part II. The article I am summarizing is entitled Picking winners, saving losers, from the Economist.
The article discusses the rise of government intervention in markets by means of industrial policy. Several examples are cited, including a French toymaker, the U.S. government’s intervention with automobile and bank bailouts and European involvement in knowledge industries. It is noted that while poorer countries often use industrial policy to help protect nascent industries and to foster growth in certain target sectors, this is not always the case in the West. In recent years, however, industrial policy has enjoyed something of a comeback in the West as well.
For politicians, industrial policy is risky. Some examples have proven successful, while others have proven abject failures that cost significant amounts of taxpayer money. The tradeoff is that some industries are more valuable than others, with respect to either foreign direct investment, jobs or other desirable outcomes for the government. It is noted that while in developing nations industrial policy may be used to support young industries and help them grow, in the West industrial policy often results in the government supporting an industry that is now struggling. Several American cases are cited.
China is discussed in the article as well, as a country that has strong government intervention in many industries. In some “pillar” industries, China’s policies have been highly successful but in others it has been an expensive failure. The China example highlights the risks that governments face when attempting to manage industries through industrial policy.
The article also discusses the role of industrial policy in the development of green energy. There have been some failures — Spain’s support of solar power is one cited — and further risks of industrial policy are cited in this section. The issue of electric cars arises, where there is a sense that government intervention of behalf of a handful of firms developing electric cars is stifling innovation in that industry by distorting the venture capital market.
The article concludes by noting that there are often other reasons beyond economics for industrial policy. In many cases the industry in question is considered to be of strategic importance, and that is the reason for support from government. Boeing was cited earlier in the report as an example of this — propped up by substantial government contracts for its defense business in order to maintain a strong national aircraft developer in the United States.
Investopedia. (2011). Economics basics: monopolies, oligopolies, and perfect competition. Investopedia. Retrieved January 29, 2012 from http://www.investopedia.com/university/economics/economics6.asp#axzz1kmQexa4w
The Economist. (2010). Picking winners, saving losers. The Economist. Retrieved January 29, 2012 from http://www.economist.com/node/16741043
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