Derived Demand, Timber Values, & Rent

Derived Demand, Timber Values, & Rent Chapters 3 and 10

Input Markets • No direct demand for logs for the most part… http://www.hellocotton.com/ decorating-a-wall-with-slices-of-wood-logs-1251305 http://www.homedit.com/interesting-diy-outdoor-table-of-wood-logs/

Derived Demand • The demand for inputs by firms is similar to demand for goods and services by consumers • Difference is that demand for forest products is usually derived from demand for other goods (housing, newspapers, magazines, furniture) • As such demand for lumber is based on the supply of lumber, along with other inputs, used in making the product

Illustrating Derived Demand Supply homes Price homes Supply other inputs Shaded area here indicates a willingness to pay after deducting the cost of all the other inputs Demand for housing Quantity homes Price lumber Supply lumber This is then the demand curve for that input-in this case, lumber Demand for softwood lumber Quantity lumber

Example of Final and Input Markets From Yanshu Li and DaoweiZhang. 2006. Incidence of the 1996 U.S.–Canada Softwood Lumber Agreement among Landowners, Loggers, and Lumber Manufacturers in the U.S. South. Forest Science.

Timber Supply s • Short-run • Long-run (conventional and very long-term) SLR SVLR D

The Extensive Margin • Stands vary in terms of their Timber Value • Timber Supply is drawn from the Timber Inventory • The Timber Inventory is sensitive to values and costs Economically recoverable inventory Net value ($/m3) Q Total inventory

Timber Supply

Perfect Competition P Producer Surplus MC P* P=MR C 0 Q

Profits, economic rent, and producer surplus • What is the difference between zero or normal profits, economic profits, and economic rent? • In standard assumption of perfectly competitive markets, all factors of production are freely available, and opportunity cost is market price of using them (wages, rental for capital) • Therefore there is no “profit” under standard assumptions of perfect competition-there are zero or “normal” profits • Under perfect competition (economic) profits are a sign of disequilibrium

Economic Rent • Economic rent occurs when we modify our assumption of perfect competition • In resource economics there are two main ways in which it can appear • market imperfections (market power or distortions) • Or from inherent differences in the productivity/quality of a resource

Economic Rent (2) Economic rent is the difference between the price paid for the factor and its opportunity cost (its best alternative use) • The rule of thumb is to assign this “excess profit” to the factor that is scarce • Characteristic of resource economics • Land for housing in Vancouver • Forests in BC • Ore deposits • Economic rent is the return to a scarce input factor over and above the opportunity cost of bringing it into production.

Profits or Rent? • Assume you have some more productive forest land so you can grow 10% more timber than anyone else • Does this mean that your costs are 10% lower? • No, it is the quality of the land • You could lease the land and enjoy the rents associated with the higher payments because of the productivity • Therefore, these excess profits are assigned to the land and called scarcity rent or economic rent

Economic Rent $ Qs S S Consumer Surplus R Economic Rent p R Qd Q/t q

Perfect Competition (?) P Producer Surplus MC P* P=MR C 0 Q

$/m3 Economic Rent MC R MR C 0 V Volume Recovered m3

Why is it important? $/m3 Economic Rent Two main reasons: First, rent measures a payment above and beyond that required to keep the factor in production we can collect that rent without changing the production decision (maintains efficiency) Second, from the perspective of the Crown, this represents the return to the public (a distributional goal) MC P MR C 0 V Volume Recovered m3

Different Stumpage Methods Have Different Outcomes Two types: Lump Sum: One price to pay to access all the timber (could be appraisal or competitive bid)-in theory could bid up to the full amount and harvest at the optimal level, V Fixed Charge: A payment on a per cubic metre basis (e.g. $X per m3). This can be determined administratively (through formulas) or you could bid it as well. $/m3 Economic Rent collected by the government MC MR P Stumpage C Deadweight loss Economic Rent retained by the logger 0 V’ V Volume Recovered m3

Utilization Standards • Why Do we Have Utilization Standards?

q1 q2 Deadweight Loss as a measure of inefficiency S P Consumer Surplus p* Producer Surplus D q* Q

The purpose of utilization standards http://www.for.gov.bc.ca/BCTS/bulletins/Cruise_based_TSL_QA_Oct_2_09.pdf

Stumpage • Stumpage is a term used to describe the price paid for standing timber. • Our focus here is on using it to denote the price paid to the Crown.

Stumpage/Government Revenues in BC, 1981-2010, 000’s of Canadian dollars

Alternative Stumpage Systems • Fixed Schedules • Appraisals • Competitive Auctions • Speaker next Tuesday will speak to this

Derived Demand, Timber Values, & Rent