Illustrating the market process and the

distortionary effects of price controls -Continuation- part5.

… case of a price floor – are made better off. At the same time, those

who are unable to secure the good they desire at the artificially

low price or those who are unable to find a buyer for their goods

at the artificially higher price are made worse off because of the

price control.

It should also be noted that all sorts of subtle processes do

not take place when there is a price floor. For example, when

there is a price floor on rents, people have less incentive to economise

on the amount of accommodation they use if they are

the lucky ones who can obtain a flat or house. As a result, price

floors can lead to markets with ‘insiders’ and ‘outsiders’ with

the lucky insiders having plentiful supply at a cheap price and

others unable to obtain the good or service at all. Another important

effect is that artificially capping prices can prevent the

dynamics of the market operating in such a way that can bring

forth new supply or bring about innovation to reduce demand.

Imagine, for example, if there had been a price cap on oil as

its price was increasing in the early 21st century. This would

have reduced the incentive to research into new ways to exploit

fossil fuels (such as shale gas fracking) and to conserve fuel and

would have reduced investment in exploration. Exploration has

the potential to move the supply curve out and new methods of

conservation have the potential to move the demand curve to

the left. These dynamics can then reduce prices below the floor.

Without these dynamic market adjustments in uncontrolled

markets, price ceilings, shortages and quality reductions may

become permanent features of the market. In general, price

controls generate a host of other costs which are often unseen

and, therefore, overlooked…