Wednesday, August 27, 2008

Corn Prices and Tequila

CNN reported that Mexican farmers are planting more corn. This makes economic sense given the rather large increases in corn prices, and is a great example of what economics mean by supply - as prices go up, firms have an incentive to produce (or supply) more.

The other interesting thing is that the land used to plant corn is not new farm land, but rather existing farm land that once was used to grow agave plants - the main ingredient for tequila. Prices for blue agave are around 2 cents per pound where corn prices are about 18 cents per pound. Given that agave plants can take six years to mature for harvest where corn grows annually, we should not be surprised that farmers are making the switch. This also relates back to supply. If the price of a another product (corn) increases, then producers (Mexican farmers) will have an incentive to reduce the supply of the current product they are producing (agave).

Given the potential for a reduction in supply in the past, tequilia producers are growing agave on rented land to make sure they have adequate supply. Others are reducing the amount of agave in their tequila. All are rationale economic responses to changes in corn prices.

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