n—-

AAA

THIRD EDITION

H. Evan Drummond
f0) UniversihojdFlorida

John W. Goodwin
Okkriwma Panhan4le State, University

Prentice Hall
Boston Columbus Indianapolis New York San Francisco Upper Saddle River
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Delhi Mexico City Sao Paulo Sydney Hong Kong Seoul Singapore Taipei Tokyo
Preface ix Basic Skills of the Agricultural Economist 18
New to This Edition XII Economic Models 18
Acknowledgments xiii Cereris Par/bus 19
Opportunity Cost 19
part one Diminishing Returns 20
Foundations Marginality 21
Logical Fallacies 22

1
The Food Industry 2
Facts, Beliefs, and Values 24
Words 24
Summary 25
Major Sectors—An Overview 2 Key Terms 25
Farm Service Sector 2 Problems and Discussion Questions 26
Producers 3 Sources 26
Processors 3
Appendix: Expressing Relationships 27
Marketers 4
Relationships 27
Contemporary Issues in the Food Industry 4
Reading Graphs 29
Farm Structure 4
Concentration 6 Slope of a Line 31
Globalization 6 Slope of a Curve 33
Coordination 7 Special Cases 34
Alternative Energy Sources 8 Key Terms 34
Summary 10
Key Terms 10
Problems and Discussion Questions 11
Sources 11
Introduction to Market Price
Determination 35
2
Introduction to Agricultural
Markets 35
Demand and Supply 36
Demand 36
Economics 13 Supply 38
Agricultural Economics 13 Price Determination 39
Basis for Economics 14 Changes in Supply and Demand 41
Basic Economic Decisions 14 Demand Shifters 44
Economic Systems 14 Supply Shifters 45
Levels of Economic Activity 15 Supply or Demand 45
Microeconomics 16 Summary 46
Market Economics 16 Key Terms 46
Macroeconomics 17 Problems and Discussion Questions 46
IV CONTENTS

part two
Microeconomics
The Firm as a Production Unit
Perfectly Competitive Markets 50
The Perfectly Competitive Firm 51
Objective of the Perfectly Competitive Firm 51
Conditions of Perfect Competition 52
Behavior of the Perfectly Competitive Firm 53
Production 53
Fixed and Variable Inputs 54
Length of Run 54
Returns to Scale 54
The Production Function 55
The Total Product 56
Diminishing Marginal Product 57
Summary 58
Key Terms 59
Problems and Discussion Questions
Supply, Market Adjustments,
and Input Demand 84
Supply Curve of the Firm 84
50 - Market Supply 85
Market Adjustments 86
Dynamic Relationship Between the Firm
and the Market 86
Cost Structure and Price Variability 88
Profit-Maximizing Input Use 89
Value of the Marginal Product 90
Profit Maximization 90
Input Demand of the Firm 92
Input Demand Shifters 92
Summary 92
Key Terms 93
Problems and Discussion Questions 93
59

Imperfect Competition and Government

Regulation 94
Market Structure 94
Costs and Optima) Output Levels 60 Perfect Competition 95
Environment of the Firm 60 Structure 95
Optimal Output Level 61 Conduct 95
Costs of the Firm 61 Pure Monopoly 96
Revenue of the Firm 66 Structure 96
Profit Maximization 67 Barriers to Entry 97
Behavior of the Loss-Minimizing Firm 70 Conduct of the Monopoly Firm 98
Summary 72 Unprofitable Monopolies 99
Key Terms 72 Performance 100
Problems and Discussion Questions 73 Monopolistic Competition 101
Appendix I: Factor-Factor Model 74 Structure 101
Conduct of the Monopolistically
Local Cost Minimization 75
Competitive Firm 102
Constant Output 76
Performance 104
Local Profit Maximization 76
Oligopoly 104
Graphical Solution 76 Structure 104
Expansion Path 78 Conduct 105
Key Terms 79 Game Theory 105
Appendix II: Product-Product Model 80 Government Regulation 106
Local Revenue Maximization 80 Railroads 106
Standard Oil 107
Graphical Solution 81
Antitrust 107
Generalization 83
Natural Monopolies 107
Key Terms 83 Marketing Orders in Agriculture 108

Summary 108
Key Terms 109
Problems and Discussion Questions
8 10
The Theory of Consumer
Behavior 111
The Law of Demand 111
Real Income and Substitution Effects 111
Substitution Effect 112
Real Income Effect 112
Market Demand and Individual
Demand 112
Utility Analysis 113
Assumptions about the Utility Model 113
Deriving the Demand Curve 117
The Market Demand Function 118
Summary 118
Key Terms 119
Problems and Discussion Questions
Appendix: Indifference Curve Analysis 120
Utility Maximization 122
The Impact of Changes in Ceteris Paribus
Conditions 124
\
Substitutes and Complements 126
Derivation of the Individual Demand
Curve 128
Summary 130
Key Terms 130
Problems and Discussion Questions
The Concept of Elasticity
Elasticity of Demand 132
Elasticity of Demand Related to
Total Revenue 135
Factors Affecting Demand Elasticity 136
Cross-Price Elasticity 138
Income Elasticity 139
Elasticity of Supply 140
Price Discrimination 141
Summary 142
Key Terms 143
Problems and Discussion Questions
CONTENTS V
part three
Macroeconomics
110
Money and Financial Intermediaries 146
What Is Money? 146
Money as a Medium of Exchange 146
Money as a Store of Wealth 148
Money as a Basis for Keeping Records 148
What Backs Money? 148
Legal Tender 149
Money and Prices 149
The Money "Supply" 149
M1 150
Near-Monies 150
Credit and Debit Cards 151
Financial Markets 151
The Commercial Banking System 151
Financial Failures 154
119 Banks in the New Millennium 159
Summary 160
Key Terms 160
Problems and Discussion Questions 161
Sources 161
11
The Circular Flow of Income 162
Final Goods 163
130
Production 163
Consumption 164
The Circular Flow 165
The Physical Flow 165
131 The Economic Flow 166
The Basic Principle 167
Gross Domestic Product and National Income 169
The Gross Domestic Product 169
National Income 170
Measurement Difficulties 170
The Price Level and GDP 171
The Circular Flow by Economic Sector 175
Households 175
Business Firms 175
Governments 176
The Foreign Sector 176
743 The Total System 177
VI CONTENTS

The Role of Financial Intermediaries 178 Exports 210

Summary 180 Imports 211
Key Terms 180 Why Do Nations Trade? 212
Problems and Discussion Questions 181 The Basis for Trade 213
Sources 181 Excess Supply/Demand 214
A Simple Trade Model 215
Gains from Trade 216

12
Monetary Policy 182
Restraints to Trade 218
Tariffs 218
Quotas 220
The Money Supply and Economic Activity 183
Restrict Domestic Demand 221
Objectives of Macroeconomic Policy 183
How Monetary Policy May Affect These Foreign Exchange Markets 222
Objectives 184 Trade Agreements 226
Implementing Monetary Policy 188 General Agreement on Tariffs and Trade 226
Federal Reserve System 188 North American Free Trade Agreement 226
Money Creation 189 Summary 227
Instruments of Monetary Policy 190 Key Terms 227
Summary of Monetary Policy 194 Problems and Discussion Questions 228
Summary 194 Sources 229
Key Terms 195
Problems and Discussion Questions 195
Sources 195
Agricultural Policy 230
The Perfect Food System 231
The Economic Environment of Agricultural Policy
Fiscal Policy 196 Issues 231
Agricultural Price Support Policies 232
Debt and Deficits 197
Agricultural Income Support Policies 236
The Classical School 198 Current Price/Income Support Policies 236
Say's Law 198 Average Crop Revenue Election—A New
Classical Macroeconomic Policy 199 Alternative 239
The Keynesian Revolution 200 Conservation Reserve Program 240
The Great Depression 200
U.S. Farm Policy in a Global Context 240
The Keynesian Contribution 201
Summary 241
Fiscal Policy in the 1930s 204
Key Terms 242
Summary 206
Problems and Discussion Questions 242
Key Terms 206
Sources 242
Problems and Discussion Questions 207
Sources 207 part four '-
Advanced Topics

International Trade 208

Changing U.S. Trade Patterns 208
Role of Trade in the U.S. Economy 208
From Creditor to Debtor 209
The Importance of World Trade to U.S.
Agriculture 210
Food Marketing: From Stable
to Table 244
Food Marketing Defined 245
Food Marketing Creates Utility 245
The Four Utilities of Food Marketing 245

Why Do Food Marketing Firms Produce Utility? 246
Choices 246
The Food Bill 247
Away from Home Share 247
The Food Marketing Bill 248
Size and Composition 248
By Commodity 249
Farm Service Marketing Bill 251
Food Market Levels 252
Assemblers 252
Commodity Processors 252
Food Processors 253
Distributors 253
Retailers 253
Vertical Integration 254
Industrialization 254
Market Functions 255
Primary Functions 255
Facilitating Functions 255
Marketing Margins 256
Derived Demand 256
Derived Supply 257
Market Equilibrium 258
Dynamic Adjustment 258
Gains from Marketing Efficiency 259
Elasticity by Market Level 261
Food Market Regulations 262
Summary 263
Key Terms 264
Problems and Discussion Questions
Sources 264
Futures Markets 266
Risk Management 266
Futures Markets 267
Exchanges 268
Futures Contracts 269
Futures Contract Prices 272
Basis of Futures Contracts 273
Speculators 274
Hedgers 275
Options 280
A Final Word 283
Summary 284
Key Terms 285
I CONTENTS VI!
Problems and Discussion Questions 285
Sources 287
18
Financial Markets 288
How Firms Obtain Funds 288
Stock 289
Newly Issued Stock 289
Previously Issued Stock 292
Stock Price Determinants 293
Reading Stock Reports 294
Stock Splits 296
Classes of Stock 297
Types of Stocks 297
Market Indicators 298
Investors and Speculators 299
Summary—What Makes Stock Prices Go Up
and Down? 300
Bonds 301
Characteristics of Bonds 301
Trading of Bonds 304
Bond Prices 305
Bond Price Quotations 306
Other Bond Features 308
Mutual Funds 309
How a Mutual Fund Works 310
Managers and Advisors 311
Types of Funds 312
264 , How to Read Mutual Fund Quotations 313
Closed-End Funds 314
Summary 315
Key Terms 315
Problems and Discussion Questions 316
Sources 317
Investment Analysis 318
Typical Life of an Investment 319
Economic Profitability of an Investment 319
Present Value 319
Net Present Value 322
Internal Rate of Return 323
Evaluating Alternatives 324
Summary 324
Key Terms 325
VII! CONTENTS

Problems and Discussion Questions 325 Information Asymmetries 355

Sources 325 Used Cars 355
Baseball's Free Agents 356
Problems in Dealing with Market Failure 356

20
Farm Service Sector 326
Information Failure 357
Economic Efficiency Considerations 357
Equity Considerations 357
Purchased Inputs 326 Summary 358
Direct Sales 326 Key Terms 359
Franchise Agents 326 Problems and Discussion Questions 359
General Store 327
Sources 360
Cooperatives 327
Insurance 331
Crop Insurance 331
Revenue Insurance 331 22
The Malthusian Dilemma 361
Credit 332
Types of Credit 332 The Neo-Malthusians 362
Sources of Credit 332 The Non-Malthusians 363
Farm Labor 334 The Demographic Transition 365
Tenant Labor 334 Traditional 365
Labor Contractors 335 Developing 366
Custom Hire 335 Developed 367
Consultants 335
Land 368
Summary 336
Summary 369
Key Terms 336
Key Terms 369
Problems and Discussion Questions 337
Problems and Discussion Questions 369
Sources 337
Sources 369

21
The Economics of Market Failure 338
Economic Development and Food 370
Advantages of Markets 338
Quantity of Food 371
Coordination 338
Prices Driven to Minimum Cost 339 For Want of Food 371
Disequilibria Are Self-Correcting 339 Who Is Hungry? 372
No Coercion 339 Why Hunger? 374

Types of Market Failure 339 Food Demand During Development 375

Poorly Defined Property Rights 340 Quantity 375
Public Goods 342 Quality 375
Common Property Goods 343 Processing and Marketing 376
Summary 376
Externalities Cause Market Failure 345
Externalities Defined 346 Key Terms 376
Private and Social Costs/Benefits 346 Problems and Discussion Questions 377
Pesticide Use—An Example of Externalities 346 Sources 377
Higher Education—Another Example of
Externalities 347 Glossary 378
Optimal Level of Pollution 349
Index 390
Benefit-Cost Analyses 351
Policy Alternatives 352