How does a price ceiling undermine the rationing function of market-determined prices? How could rationing coupons insure that consumers with the highest values get the limited amount of a good supplied when government price ceilings create shortage? Fully explain answer based upon demand, supply and market equilibrium.
Price ceilings are the highest prices of goods and services that firms can charge consumers. “Ceiling price is the maximum price the government permits sellers to charge for a good. When this price is below equilibrium, a shortage occurs.” (Thomas & Maurice, 2010, p.75).These upper limits imposed occasionally on price of a good or service by the government in order to protect consumers. “Voluntary exchange at the market –determined price insures that industry output is purchased by the consumers who place the highest value on consuming the goods and services.” (Thomas & Maurice, p.659). Normally, consumers whose demand prices equal or exceed the good or service market price will buy that good or service, while consumers whose valuation are less than the market price will not buy that product or good. “This process by which prices serve to ration goods to their highest-value users through voluntary exchange is generally referred to as the rationing function of prices.” (Thomas & Maurice, p.656). Rationing usually happens during wars or major crisis in the free world and all the time in social countries such as Cuba.
The market equilibrium occurs at the price level for which quantity supplied equals the quantity demanded. When the government sets a price ceiling below the market equilibrium price, the demand will exceed supplies and create a shortage in goods and services. This shortage will influence people to create a black market. Goods and services are sold at higher prices in the black market and only people with the highest values will be able to get the limited amount of a good supplied when government price ceiling create shortages. Although sellers in the black market will not be able to legally charge more for these goods than the imposed government price, they normally charge fees such as transaction or finders’ fees to get around it. Consumers with the highest value, greatest resources, highest needs and the willingness will buy it.
Let us assume that the Unites States Government rations essential goods such as meat and gasoline, what do you think consumers’ reaction will be? I believe that we will have riots, black markets will be everywhere, and crimes will go up. Theoretically, the issuance of rationing coupons that ensures the availability of the rationed goods (Meat, Gasoline, etc.) to all consumers with limited quantities, will limit the amount consumers with highest value can get. However, in real life, people will sell their rationing coupon books to the highest bidder and starve themselves and their families in order to get cash. This will cause health problems and crimes to rise. The government needs to leave the market alone and only act as a police, judge and an enforcer of the market overall and let the market decide the consumers’ quantity demanded, firms’ quantities to supply and the market to determine the goods and services prices based upon demand and supply. Price control distorts supply and demand and creates problems.
Take a shot, what do you think?
Hint: draw a supply and demand graph, then draw a ceiling price below your equilibrium price. At that price, how much are producers willing to supply? how much do consumers demand?
Hint2: could people sell their rationing coupons?
by social economic efficiency under perfect competition.
To understand how a price ceiling undermines the rationing function of market-determined prices, let's first define what a price ceiling is. A price ceiling is a government-imposed limit on the price of a good or service, set below the equilibrium price that would be determined by the market forces of supply and demand.
In a market-determined price system, prices play a crucial role in rationing goods and services. According to the law of supply and demand, the market price adjusts until the quantity supplied matches the quantity demanded, resulting in an equilibrium where both buyers and sellers are satisfied.
When a price ceiling is imposed, it creates a maximum price that is below the equilibrium price. This artificially low price may lead to several consequences:
1. Shortages: At the price ceiling, the quantity demanded exceeds the quantity supplied, resulting in a shortage. This means that there is not enough supply to meet the demand at that price.
2. Inefficient allocation of resources: Since the price no longer reflects market conditions, suppliers may choose to reduce their production or exit the market altogether, as selling at the lower price may no longer be profitable. This can lead to inefficient allocation of resources, as some goods and services may be underproduced or even completely unavailable.
3. Black markets and illegal activities: With a shortage in the legal market, consumers may turn to underground markets where goods are sold at prices higher than the price ceiling. Black markets can lead to price gouging, lower product quality, and an increase in illegal activities.
To address the issue of rationing in the face of price ceilings, governments sometimes implement rationing coupons. These coupons are typically distributed to consumers, who can use them to purchase a limited amount of the good at the artificially low price.
Rationing coupons can help ensure that consumers with the highest values or needs for the limited good are the ones who have access to it. By using the coupons, consumers effectively demonstrate their demand and willingness to pay for the good.
However, it's important to note that even with rationing coupons, the underlying problem of shortages due to price ceilings still persists. The coupons only address the allocation of the limited supply among those who receive them, but they do not increase the overall supply of the good.
In summary, price ceilings undermine the rationing function of market-determined prices by disrupting the balance between supply and demand. The resulting shortages can lead to inefficient resource allocation and the emergence of black markets. Rationing coupons can help allocate the limited supply to consumers with the highest values, but they do not solve the fundamental problem of insufficient supply caused by the price ceiling.