Scarcity and the Market System

The below mentioned article provides a short notes on Scarcity and the Market System.

The starting point of economic analysis is the problem of scarcity. This problem arises because human wants are unlimited but human capacity to satisfy the wants is limited. No society has all the means to achieve all economic objectives, simultane­ously and fully. So, the central fact of economics is scarcity of the means of production relative to the goods and services for which people express a need or desire.

If the members of a society do not have enough means to produce all that they need or want, choice has to be exercised. Choosing to build more schools and hospitals means choosing to produce less of other things such as microcomputers and motor cars. The necessity of choice implies cost.

The cost of us­ing raw materials, skilled and unskilled labour, plant and equipment, and energy to produce micro­computers is forgoing the opportunity to use those resources to produce something else and explains why the cost implied by choice is often called op­portunity cost. This is the most important cost con­cept for business decision-making.

In the market system, choices and decisions are made at a decentralized level without any central planning authority. The market (price) system is an elaborate mechanism for unconscious co­ordination of the activities of millions of diverse individuals and business firms.

There are two basic units in an economy: the household (consumer) and the business firm (pro­ducer). The interests of these two sectors are in con­flict. The firm wants the goods and services ex­changed at high prices, but the consuming sector wants them exchanged at low prices.

Production and exchange through interactions between buyers and sellers reconcile these conflicting interests and thus enable businesses to earn profits and house­holds to satisfy wants and maximize utility.

Interactions between buyers and sellers of a product occur in the market place. Some markets are highly organized and centred in a particular geographical area. Examples are the New York Grain Market and the Calcutta Stock Exchange. In general, markets have two different kinds of par­ticipants: demanders who wish to buy, and suppli­ers who wish to sell.

The forces of demand and sup­ply are relied upon in a free market system to determine prices. Consumers express their demand in the prices they are willing to pay for various goods and services. In a like manner, business firms seeking profit cater to consumer demand by offering goods and services at various prices.

Thus, for a particular commodity, a market is established in which its price is determined by its supply by the producers and demand of the buyers. Hence, a back­ground knowledge of the basic principles of market demand, market supply, and market structure is es­sential.

Here the purpose is to set forth a brief review of supply, demand and market equilibrium. The object is to enable the stu­dents to realize how important these concepts are and how they are used.

The primary importance of supply and demand is the way they determine market prices and quan­tities sold in the market. Business managers are very much interested in forecasting future prices and output, of goods and services they sell, as also of the inputs they use.

A familiarity with the concept of comparative statics, the comparison of market equilibrium con­ditions before and after certain conditions change, is absolutely essential if one hopes to be able to forecast future market conditions.

This technique enables managers to make qualitative forecasts — forecasting the direction of change in price and out­put — and to know what techniques should be used to forecast the magnitude of the changes.

For in­stance, if one reads in The Economic Times that the Central Government is considering a tax cut (e.g., a cut in excise duty or sales tax), comparative statics enables one to forecast whether the price and sales of a product will increase or decrease.

We start with an analysis of demand, then de­velop the foundations of supply. Thereafter, we put these two concepts together to show how they de­termine the equilibrium price and quantity sold in the market. Then we describe comparative statics — how changes in demand or supply curve affect prices and quantity sold.

This is followed by a dis­cussion of complex changes — shifts in supply and demand curves at the same time. Finally we con­clude with a study of the effect of government in­tervention in the product market.