Price Ceilings: The good, the bad and the ugly?

 

Have you ever wonder why Malaysia’s inflationary rate never exceeds 4%? No? Never? Well, that’s because price ceiling exist.

Price ceilings legitimately replicate curb to restrict inflation, or control monopoly power by holding down prices for essentials. Sure, prices on most markets are free to rise or fall to their equilibrium levels no matter how high or low those levels might be. However, government sometimes resolved that supply and demand will produce prices that are unfairly high for consumers or unfairly low for producer, therefore the government sets price ceiling.  Unfortunately, setting price ceiling might not be a great idea… but we’ll talk about that later on.

So, what is price ceiling? Price ceiling is the maximum legal limit that the government allows the distributor to charge for a product or service. Basically, the government controls the prices of the essentials so that the unfortunate would be able to afford the essentials. For instance, stated on Star Newspaper September 2012, Malaysia’s government has announced that the subsidy for sugar prices would decrease in the start of the year 2013. Even though, the subsidies have been reduced, the producers are not allowed to increase the price of sugar. Consequently, Malaysia’s government has set the price ceiling of fine granulated white sugar to RM 2.50 per kg and coarse granulated white sugar for RM 2.60 per kg because sugars are essentials.

Ok.. So what are the effects of price ceiling?

As you can see, for the price ceiling to have an effect they must be set below the natural market equilibrium.  Hmm.. so what happen when it is set? Shortage happens. Woah, how did we get there? Well, if you remember the law of demand, a shortage occurs when there is more demand and less supply at the equilibrium price, which also means there is more quantity demanded than quantity supplied therefore causing the marginal benefits to surpass the marginal cost.

Example, recent rises in the price of gas have left many individuals requesting for a price ceiling on oil. If the government sets a price ceiling on gas, there will be a shortage. Remember the oil crisis in America in the 1970's? This is exactly what happened. You now see why this is a bad idea.

So here is the ugly part, when shortages occur, people will go to a higher distance for that necessity. When there is a demand, there will be a supply. Obviously, a supply that will not be acceptable by the government. For a price ceiling problem that is relatable is the black market. No, it is not a name for an underground market place but oddly it stands for an activity that takes place outside of the government’s eyes

A perfect example of a black market situation is a movie called Blood Diamond. Basically the movie is about an illegal diamond trading in a mine, which was set against the backdrop of civil war in Africa. In this movie, the illegal activity has brought many disadvantages to the African citizens, especially the ones living in poverty because of ineffective administration, corruption, and the poorly paid officials who are vulnerable to bribery etc. This situation coupled with the presence of significant national mineral wealth gives opportunity to war-profiteers, who easily access arms from an underground black market. 

Price ceilings are incompetent for many reasons. One reason worth considering is that they increase the need for monitoring and implementation. That means increased government administration, which does not come cheap. Increased government spending equals more taxes or more borrowing. Thus, I conclude that price ceiling has a few benefits and drawbacks. 

So, is price ceiling a good thing? Bad? Or ugly? You decide.