Question

During times of crisis, oftentimes certain products will be in short supply. This is true of bottled water and plywood during cyclones, shovels during blizzards, and flour, toilet paper, surgical masks, and other staples during the COVID-19 pandemic. From a classical economics perspective, the straightforward efficient solution to these shortages is to allow prices to rise until equilibrium between supply and demand is restored, which ensures that those with the highest value for the goods (judging by their willingness to pay) are the ones who are able to purchase them.

a. When prices on goods do rise during crises, this is usually labelled price gouging and is strongly discouraged or even banned. How can you explain this using the concepts from this chapter? __________________________________________________________________________________ __________________________________________________________________________________ __________________________________________________________________________________ __________________________________________________________________________________ __________________________________________________________________________________ __________________________________________________________________________________ __________________________________________________________________________________

b. Stores often impose quantity limits on these goods instead of raising prices. How can you explain this using the concepts from this chapter? _______________________________________________ __________________________________________________________________________________ __________________________________________________________________________________ __________________________________________________________________________________ __________________________________________________________________________________ __________________________________________________________________________________

Answer 1

a. Price gouging creates a situation where only the fittest and strongest in terms of wealth will survive. The poor people who do not have much income and savings are the ones negatively impacted as a result of price gouging. Thus the resources will not be distributed in an efficient manner. There will not be welfare element or fairness in the allocation of goods. The only motive of the seller will be to make profit. This will ultimately lead to adoption of stringent measures by the government.

b. When government put a restriction on quantity the price also changes. When a limit is set for the quantities to be sold, the price level increases. But the benefits to the consumers will decrease more compared with the increase in the benefits of the producers. This leads to a reduction in the total market surplus than before.