The article states thatfarmers have been burning heaps of their chilli crops and upset at thedepression in prices that have followed massive overproduction as they werehoping for good returns this year, as prices of chilli crops have hit Rs 12,000per quintal last year but the prices crashed by 50% and are still between Rs5,000 and Rs 6,000 per quintal this year. This serves as an exampleto illustrate the need of government intervention to protect the farmers, thegovernment can adopt price floor as a solution for this consequence. A legallyset minimum price is called price floor.
Price floors are generally used fortwo reasons: to provide income support for farmers and to protect low-skilledand low wage workers by offering them prices for their products that are abovemarket determined prices by controlling the price in product markets andprovide them with minimum wage that is above the level determined in the marketby controlling price in resource market. One method governments use to supportfarmers incomes is to set price floors for definite agricultural products, theaim being to raise the price above their equilibrium market price, this methodis called PRICE SUPPORTS. This results in reallocation of resources. Thegovernment takes initiative to provide financial support of Rs 1,500 for everyquintal over and above the price that the farmer gets and has capped thesupport at 20 quintals per farmer. The imposition of price floor reduces the lossto farmers. figure 1: change in supply for chilli cropsduring different years. P signifies the price and Q signifies thequantity.
Initially, the supply was P1per quintal, this is when D intersects S1. Due to an increase in supply, thereis a shift in supply curve to S2 that is, from point a to b, this createsdisequilibrium as there is excess supply. Therefore, price begins to fall andthere results a movement down S2 to point c where a new equilibrium isachieved. This results in huge loss for producers as there is excess supply butthis can be eliminated at point c where there is a lower equilibrium price, P2but a higher equilibrium quantity, Q2. This consequence can besolved by imposing price floors. Incomes that farmers get from selling theirproducts in free markets are usually unstable and too low. Unstable incomesarise from unstable agricultural product prices, that occur due to low priceelasticities of demand and supply for agricultural products. Governments oftenuse PRICE SUPPORTS method to support farmers incomes.
figure2: price floor inagricultural product market and government purchases of the surplus. Figure 2 illustrates themarket for chilli crops with a price floor, Pf which is set above theequilibrium price, Pe. The price floor results in a larger quantity supplied, Qsthan the quantity supplied at market equilibrium, Qe. In addition, Pf leads toa smaller quantity demanded and purchased than at the equilibrium price and thequantity consumers want to buy at Pf is Qd, which is smaller than the quantityQe that they bought at price Pe.
A price floor does not allow market to clearand results in disequilibrium where there is excess supply (surplus). An often methodpracticed by government is to buy the excess supply which causes the demandcurve for chilli crops to shift towards right to the new demand curve- D+ governmentpurchases. By buying up the excess supply, the government is able to maintainthe price floor at Pf. In this way the government intervenes in market in orderto protect farmers from loss.