Question

arrangements as well as Talony involved. In summary government-imposed minimum prices cause: Excess supply Misallocation of resources • Waste of resources. AS

How price floor (Minimum Price) results misallocation pf resources

A) Want to know how Price floor causes mis allocation of resources , I know that price floor causes Excess supply .

B) Same with price ceiling , how it results in misallocation of resources , here the price ceiling causes excess demand or shortage of supply.

please illustrate perfectly , dont want hunches

Answer 1

Solution

a) Price floor is minimum legal price of the product, this is decided by the government authorities to prevent the selling of goods as extream low price. Many of the agriculture product have floor price and minimum wage rate is the best example of floor price.

now lets understand how it cause misallocation of resourses: suppose there are two states with different demand pattern ie the demand of labour the state where the demand is less it should decrease the wage rate which results in the migration of labour force to the state where the demand is comparitively high the the worker will get the required wages for their work.

But due to floor price(minimum wage) labour get the same wage in both the state irrrespective of their demand that leads to mis-alllocation of resources.

B) Price ceiling is the maximum price that can be charge for the product or service from the customer. By price ceiling seller couldnot earn the incentive on sale during excess demand or shortage in supply.

Price ceiling also leads to mis-allocation of resources: lets understand it through an example, suppose there are two states  A and B. now if state A has more demand of any particular good or service then it could not convince seller to provide that good or services by paying more for the same. It results in misallocation of goods by hindering the movement of goods from the place where it more required as compare to the other one.

In general we can say price flooring or price ceiling both are against the law of demand and supply which works effectively during free market operations to tackle market shortage in supply or excess in demand.