According to the production-smoothing buffer stock model, inventories of a firm’s products allow it to supply unexpected demand without having to adjust output immediately. When costs per additional unit produced are increasing, using inventory to smooth production is efficient as long as the savings from not adjusting production exceed the cost of holding inventory. Inventory acts as a buffer stock, absorbing increases or decreases in demand while production remains relatively steady.
If firms are smoothing production, then sales should vary more than production. If inventories are used as a buffer stock, then high-frequency changes in inventory should be in the opposite direction to sales. Empirical research using aggregate data does not confirm this expectation, however; production varies more than sales, and changes in inventory and sales tend to vary in the same direction. Thus either the production-smoothing buffer stock model is incorrect, or other factors ere preventing empirical confirmation of the smoothing effect.
Most of the research that finds contradictions of production smoothing uses seasonally adjusted aggregate data concerning inventory and sales. It is possible that firms actually do use inventory to smooth production, but the research has failed to detect signs of this activity because the data are too highly aggregated over many firms. But even research at the level of individual companies has failed to confirm the model.
The passage mentions “high-frequency changes in inventory” (see bolded text) in order to
A . explain how rapidly the process of inventory change can be effected
B . isolate the causal factors that contribute to the changes in production that have been observed
C . show how the concept of inventory is identical to the concept of buffer stock
D . identify a kind of event that can help determine whether producers actually use inventories in the way described
E . demonstrate that when changes in inventory are fast enough, efficient smoothing of production is achieved
Answer: D