Price Control: Reason or Remedy
“Study of Demand and Supply” is the simplest definition of Economics.
The demand curve is downward sloping and the Supply curve is upward sloping.
This means as the price of a product increases the demand goes down. As the price of a good does up, the Supply increases.
The reasons are intuitive. Higher price means higher profit, higher profit attracts more suppliers and existing suppliers shift their supply from competing products to this product. When the price of a good falls, the opposite happens, existing suppliers move to competing products and some leave it altogether.
Oil Market: Recent News
When the demand for a product goes up, at constant supply, the price goes up. Oil prices are a good example of this. Because of the global slowdown, the demand for oil has come down because of which oil prices became low.
In order to stabilize the price, Oil-producing countries wanted to reduce supply. Russia and Saudi couldn’t agree and to teach Russia a lesson, they decided to increase production assuming that the drop in price would hurt Russia more than it would hurt them.
Looking at the Mask Market
The price of sanitizers and masks shot up in the beginning of March. This increased the number of suppliers. New producers were attracted and existing capacity on other products was diverted to masks (and other health products like PPE and Sanitizers).
With the increase in price, that was caused due to a spike in demand and not due to hoarding, the government brought these products under the Essential Commodities Act and fixed a ceiling for their prices.
The ceiling or the maximum price that anyone could charge for these goods, was below the market determined price. This meant that while people were willing to pay more, the sellers couldn’t sell it for that amount. This created two problems1:
- The Cost Price for the wholesalers and dealers was, in many cases above the ceiling price. They would now have to sell below their Cost Price.
- The price of inputs for these essential commodities had increased, based on the increase in demand. Those prices are still high. This means for new suppliers, the cost of raw material is high whereas the selling price is regulated. This would limit profits, in some cases, to zero.
Price control generally fails
Price control is often done with the intent of ensuring a particular good or service remains accessible to the masses. Price control, done with the best of intentions has consistently failed to provide a benefit. Rent Control is a glaring example. By diverting profits from a particular good, you are only punishing the supplier and incentivizing them to shift their capacity elsewhere. Price control fails, in meeting its objective of ensuring adequate supply and availability of a commodity.
In most cases of price control, suppliers do not supply the product at the control price but sell in the black market at a much higher price.
Organised Sector to the Rescue
The organized sector across the world has come to the rescue by diverting their existing resources towards the production of these goods. Their capacity would anyway have not been used with the lockdown in place. This way they continue their operations and do a fair bit of social good.
That’s what I call a healthy practice.
1This is based on interaction with local wholesalers in Delhi.
