Price fixing causes shortages explained for laymen

Article by Cal Nogov on Jan. 19, 2016


Price fixing causes shortages.  Price fixing is when the government mandates a good or service must be provided at a certain price in contradiction to where the market would set the price.  It is generally not an absolute, but set at a minimum or maximum.  Government mandates carry a punishment if violated.  Those punishment are fines, jail time, property confiscation, even execution.

To understand why price fixing causes shortages, let’s look at a simple product;  A loaf of bread.

Let’s say the price of a loaf of bread for sale ranges from $2 to $5.  $2 for your basic loaf of cheap bread and $5 for the gourmet yummy bread with oats and sunflower seeds.  Okay you get the idea.

Now imagine if the government mandated that the maximum price someone can sell a loaf of bread for is $3.  This will not eliminate the bread market altogether, but it will cause a shortage of gourmet yummy bread.  The reason for this is that the cost of production and distribution of the gourmet yummy bread is higher than the cost one is able to sell it for.  If it costs $4 to produce and distribute the bread, but can only be sold for $3, people are going to stop producing it because they are losing money on every sale.

Now imagine the government mandated that the maximum price someone can sell a loaf of bread for is $1.50.  All bread will soon disappear from the stores.  Prior to the government price fixing, there was a lot of competition in the bread market and $2 was as low as anyone would sell it for.  Forcing the price down to $1.50 by government mandate has destroyed all profit potential.  With profit potential gone, no one will produce.  (except black markets)



What if the government did the opposite and mandated a minimum price for bread?  Let’s say $6.  Bread makers are going, ‘alright, now we’re talking’.  What kind of shortage will this create?  It will create a shortage of buyers.  At $6 a loaf many people will stop buying bread and seek an alternative product.  Some people will still buy at $6.  Black marketeers will appear again and sell for cheaper outside legal operations.  They can sell what would normally be $2 bread for the price of $4 while still undercutting the legal sellers who are forced to sell for $6.  Ultimately most “legal” bread sellers will go out of business because the black market is undercutting them and very few people are will to buy at $6.  So while the bread makers thought this will be great for us, it turns out the opposite and they’re out of business.

Let’s look at some price fixing the government currently engages in.  The minimum wage.  This is the price for hired labor.  Let’s say market rates for hired labor are between $5 an hour and $1000 an hour.  $5 an hour for unskilled labor and $1000 for a corporate CEO.

The government then sets the minimum wage at $8 an hour.  What kind of shortage does it create?  A shortage of jobs.  Not all jobs, just the jobs that paid less than $8.  If the job being hired for is only worth $5 an hour, no one is going to hire someone at $8 an hour.  And, once again, black markets will pop up.  What if the government mandated a $30 minimum wage?  More job shortages.

What if the government mandated a maximum wage?  Let’s say $20 an hour.  What kind of shortage will this create?  A worker shortage.  Most people work for more than $20 an hour.  Some will still accept this wage, but most will end up going the self employment independent contractor route.  No one would take a corporate CEO job with all the work and headaches it brings for $20 an hour.  Black markets again.

When governments price fix it causes shortages.  Sometimes the shortages aren’t obvious, but they are there.  Shortages are major problems in society.  Government then tries to meddle further to “fix” the problems they’ve caused with price fixing which causes more problems, and so it goes.

Some questions to ponder.  What would happen if the government price fixed medical care?  Say $20 maximum doctor visits.  How about a minimum $2000 a year medical cost? (obamacare)  What about the price of money itself? (interest rates)  What would happen if the price of lending was fixed at 1%?  or 20%?

When governments price fix it ALWAYS causes shortages.  Shortages generally leads to more government meddling.  Which leads to further problems.