Question

Consider an economy where rice is the staple food and the rice market is perfectly competitive. Initially the consumers paid the market equilibrium price for rice.

(ii) Analyse the possible impacts of the market price of rice on low-income households. What policies could the government implement to rectify the possible negative impacts? You need to suggest at least three different policies, explain how each policy works and discuss the pros and cons of these policies.

Answer 1

Perfect competition refers to a market situation where there are large number of buyers and sellers dealing in a homogeneous product at a price fixed by the market. In this market sellers sell same product at a single uniform price. The price is not determined by particular firm but by the industry, that is market forces of demand and supply.

When the price is determined by the market forces of demand and supply there is no government interference. However markets are rarely free from government interference. at times government has to intervene in the process of price determination when the equilibrium price so determined is either too high for the consumer or too low for the producers of the commodity.

Government plays an important role in controlling the prices of essential commodities., When the equilibrium price determined by free play of demand and supply is too high for the low income people. Price ceiling refers to fixing the maximum price of a commodity at a lower level than the equilibrium price. Maximum price ceiling refers to imposition of upper limit on the price of a good by the government.

It is generally imposed on essential items and is fixed below the market price. The reason for price ceiling is that Market price is too high for the common people. When price is fixed below the equilibrium price, the demand for the commodity goes up but its supply remain limited. As a result there is excess demand in the market.

The effect of price ceiling is that there is shortage of goods in the market in comparison to demand which may for the result in black marketing. black market is any market in which the commodities are sold at a higher price than the maximum price fixed by the government. It may be termed as direct consequence or implication of price ceiling as it implies a situation where the commodity under the government control policy is illegally sold at a higher price than the one fixed by the government. It may primarily arise due to the presence of consumers who may be willing to pay a higher price for the community.

To meet the excess demand government main enforce the rationing system. rationing is a technique adopted by the government to sell a minimum quota of essential commodities at a price less than the equilibrium price to supply goods to poor community at a cheaper price. Under the system consumers are given ration cards or coupons to buy commodities at a cheaper price from ration shops.

The problem in rationing is that consumers have to stand in long queues to buy goods from ration shops. Sometimes commodities are not available aur goods are of inferior.

In order to avoid the negative impact that arises due to price ceiling, Government provide facility of direct benefit transfer. Under this, benefits are Directly transferred to to the account of beneficiary.