Buffer stock with income stabilization.

Due to unfavourable natural conditions, less output OQ-j comes onto the market. The price increases to OPt and the producer's revenue also increases to QQj DT P1 which indicates producer's revenue is greater than OQ0R0P0. It is the intention of the government to come in and stabilise producer's revenue so that it is equal to OQ0R0P0.
The government interferes in the mechanism and tries to stabilise the producer's revenue by employing a unitary elasticity demand curve (RR) which is drawn passing through R0. The major characteristic of this demand curve is that all the combinations of price and output yield the same revenue R0.

With output QQt, the government does not allow price of OPj but it instead ensures a price of OP21 R-j P2 is obtained by the producer and it is equal to OQ0R0P0, and hence income stabilization. However, at price QP%, the demand is OQ2 but the supply is only OQ-, - which was brought onto the market. Therefore, there is a shortage of Q1Q2. The government comes in to sell what it stored during a surplus period. It gets revenue from the sale of Q1Q2 equal to Q1Q2D2R1. that is on the unitary elasticity demand curve (RR). Revenue OQ

When there are favourable conditions, the actual output OQ3 that comes onto the market is greater than the expected output of OQ0. This excess supply of the commodity forces down the price to OP3, and the producer's revenue also decreases to OQ3D4P3. In order for the producer to get the same amount of revenue OQ0R0P0, the government must ensure a price of OP4, which is on the unitary elasticity demand curve.

At this price of OP4, the demand is only OQ4 but the supply is OQ3. There is a surplus of Q4Q3, which the government buys and stores to be sold during the shortage period. The government expenditure on the surplus output Q4Q3 is equal to Q4Q3R2D3.

The producer's revenue is equal to OQ3R2P4 which is equivalent to OQ0R0Po and hence income stabilization. Part of this revenue comes from the consumers (OQ4D3P4) and the other (Q4Q3R2D3) comes from the Government.

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