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When in doubt, let the price mechanism prevail

In economics, the rule of thumb is to let the price mechanism balance the market. In order to achieve maximum efficiency and equality, the market must clear in a way where every consumer receives an item based on their valuation for that particular item. In the case of Alabama, a leak in a gas pipeline resulted in a market where gas prices were held below market clearing prices. While politicians favor the anti-gouging laws in Alabama, economists scold them due to the universal laws of supply and demand. In the presence of a gas shortage, there is upward pressure on the market to reach the market equilibrium. However, through the eyes of a politician, anti-price gouging serves as the only mechanism to maintain social welfare. In turn, when there is an absence of market clearing prices, the shortage is not alleviated—not your average supply and demand curve—hence, bad economics.As was mentioned during lecture, phantom sellers are created to allow those consumers that are competing for the same item to acquire something in the end. In Alabama, the market includes a constricted set where there are too many consumers demanding gasoline. With no market clearing prices, some consumers will be able to acquire gasoline while others will be left out. This is not a balanced solution. At this rate, the prices are too low to alleviate the shortage and although price gouging affects optimal social conditions, in the long run, supply and demand will move towards the market equilibrium. Through the eyes of an economist, the socially optimal solution would be to seek market clearing prices. The article states that “every economist would tell politicians that while some people will benefit from anti-price gouging laws, other people will suffer because of them.” Let’s compare this to a small-scale example. In a market where there are three buyers competing for three items, all three buyers have different valuations for the three items. In order for these three buyers to acquire their preferred item, the preferred seller graph must be matched where a constricted set is absent. If there are too many buyers preferring the same item, the market will increase the prices of the preferred items. Similar to how a second-price auction functions, the seller will increase the price until there is one buyer left. This price mechanism allows the market to clear and allow all three buyers to acquire an item in the end.

As was mentioned during lecture, phantom sellers are created to allow those consumers that are competing for the same item to acquire something in the end. In Alabama, the market includes a constricted set where there are too many consumers demanding gasoline. With no market clearing prices, some consumers will be able to acquire gasoline while others will be left out. This is not a balanced solution. At this rate, the prices are too low to alleviate the shortage and although price gouging affects optimal social conditions, in the long run, supply and demand will move towards the market equilibrium. Through the eyes of an economist, the socially optimal solution would be to seek market clearing prices. The article states that “every economist would tell politicians that while some people will benefit from anti-price gouging laws, other people will suffer because of them.” Let’s compare this to a small-scale example. In a market where there are three buyers competing for three items, all three buyers have different valuations for the three items. In order for these three buyers to acquire their preferred item, the preferred seller graph must be matched where a constricted set is absent. If there are too many buyers preferring the same item, the market will increase the prices of the preferred items. Similar to how a second-price auction functions, the seller will increase the price until there is one buyer left. This price mechanism allows the market to clear and allow all three buyers to acquire an item in the end.

Although the anti-price gouging law justifies an increase in price to a certain extent, corporations reject taking action in fear of being charged for price-gouging. In the end, although low prices may seem socially optimal, the market fails to clear and the price mechanism fails. With a constricted set in the Alabama market, a constricted law overpowers the rules of economics.

http://www.forbes.com/sites/jeffreydorfman/2016/09/23/price-gouging-laws-are-good-politics-but-bad-economics/#2b78bd234970

 

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