June 2014 Context 1 Essay Model Answer



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Governments sometimes need to intervene in markets to correct market failure, where allocative inefficiency has occurred, where resources have not been allocated in the best possible way to maximise consumer welfare. Clearly, if people are unable to afford their basic needs, a market failure has occurred and this indicates strongly that government intervention needs to be implemented.
The reason that the price of wheat and sugar have gone up is due to the rationing, signalling and incentive functions of the price mechanism. As the demand grew, the incentive for farmers was to produce biofuel products, which also rationed the amount of food available for consumers. The only way in which governments could override these functions is either to reduce the supply of foodstuffs to the biofuel market, or to increase the supply to the food markets.
Legislation would probably be the most effective way of reducing the supply to the biofuel market, but there are consequences to this. Those governments who oversee countries where the biofuel technology is being pioneered could see a reduction in employment opportunities in a growing industry, as well as increased costs in policing the new regulations. It is also unlikely that they are the countries that are most affected by the increase in food prices, so there would be little incentive for them to implement this legislation.
The governments that are overseeing economies that are developing and are more likely to be reliant on the production of food would also face resistance of such a scheme as their farmers could be prevented from achieving the highest possible price for their goods. As stated in the extract, this gives producers the possibility of growing their way out of poverty. Clearly these are good reasons why the governments should not intervene in the biofuel market.
Another way in which governments could intervene may be through subsidies for food producers, which would encourage them to supply more crops for the food industry. However, these are vast markets and the cost to the governments, particularly those in less developed areas, would make this prohibitive.
The other significant problem that is faced, is that the markets for these products are global, and, as such, are not controlled by one governing body, so the implementation of any policy would have to be agreed internationally and that would be almost impossible as each individual country is likely to want what is best for their population, rather than the good of humanity, the efficient allocation of resources, so an overriding agreement is unlikely.
This only leaves one viable alternative, to leave the forces of supply and demand to work out the problem for us. There is a problem with the reducing amount of fossil fuels, which will require action and resources will be moved into this area, which will clearly involve an opportunity cost. It may be that individual governments see a need to tackle poverty and inequality as a market failure, but the most efficient way of doing this is unlikely to be from suppressing a growing market that global demand will increase for. Whilst this problem may be enhanced by the transference of food products to the biofuel market, it is very clearly not the only cause, as poverty and inequality have been around for centuries, way before biofuel was considered. Therefore the best approach to solving this particular market failure is likely to come through progressive taxation and the redistribution of income and wealth rather than an overly complicated process of focussing on legislation and subsidies for farmers.
As a result it is clear that governments should not intervene to prevent agricultural products from being used to produce biofuel.





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