Generally, economic efficiency is achieved when production costs of a given product are as low as possible. When resources are used optimally and waste is minimized, this contributes to economic efficiency. In essence, economic efficiency is achieved when the output of goods and services is produced with emphasis on the most efficient use of the available scarce resources and when that output best meets the consumer’s needs. Additionally, it is also achieved when the set price fairly reflects the value of resources used up in production. However, this is dependent upon other factors being held constant such as the quality of goods. Changes that lower a product’s quality and the production costs at the same time do not enhance economic efficiency. Measuring economic efficiency is rather subjective where the associated benefits in terms of social good are evaluated. Employment rates and rise or fall of prices and interest rates can be used to assess an economy’s economic efficiency.
In protecting consumers and regulating the market environment, governments introduce minimum and maximum prices that products can be valued at. These are referred to as price controls and include price floors and price ceilings. Price ceilings are the maximum prices imposed on businesses due to the external influences which limit prices from reaching normal prices set in a free market (equilibrium price). On the other hand, price floors are the minimum prices set above the free market point aimed at artificially raising the equilibrium price of various products. They are used mainly in the short-term, when prices of basic commodities such as food rise rapidly. When implemented on the long-term, debilitating effects such as rationing, rise of black markets due to shortages, as well as deterioration of quality can be experienced (Pettinger, 2010).
Consumer, Producer and Economic surplus in a competitive market
Economic surplus can be viewed as the benefits that various entities (producers and consumers) in the economic market gain from the utilization of scarce factors of production and consumption, mainly denoted in terms of monetary gain in trade exchange processes. This is well explained by the two types of surpluses that define economic surplus: consumer and producer surplus. Consumer surplus involves the benefits that consumers gain from the purchase and consumption of goods in terms of monetary prices. Specifically, it is the difference between the total amount that consumers are willing and able to pay for a good or service and the total amount that they actually do pay (product’s market price). A difference between the price that one actually pays in the market and the price value that one places on the product leads to a consumer’s surplus. Suppose one is willing to spend 100 Euros on a stereo but finds the product’s market price to be 80 Euros, then the consumer can be said to have a consumer surplus of 20 Euros. Producer surplus is the difference in price between what producers are willing and able to supply a good for and the price they actually receive. Alternatively, it can be viewed as the amount that producers of a product benefit by selling at a set market price that is higher than the least that they would be willing to sell for.
Competitive markets are characterized by sufficient numbers of both buyers and sellers, and thereby none can influence or exercise exclusive control in setting the market prices of products or other aspects of the market. In this case, competition between buyers ensures that they pay the maximum demand price, while the seller’s competition forces sellers to charge minimum supply prices for quantities of goods exchanged. Basically, the competitive market is defined by a simple graph that illustrates equilibrium achieved in terms of price and quantity. Accordingly, the consumer and producer surpluses are maximized.
Deadweight loss can be defined as the loss of economic well-being experienced due to imposition of taxes. Financially, taxes make the taxpayers suffer as the money paid can be utilized for other income generating purposes. Although necessary, taxes burden the taxpayer and make the taxed products seem less attractive, thus reducing one’s desire to purchase them. Essentially, it may also diminish the incentive to work beyond certain levels and has even lead many people to adopt various ways to reduce that burden through tax evasion. Also, the time spent in imposing, collecting, and evading taxes can be put to good use. This implies that if the demand and supply of a product keeps changing, the deadweight loss of taxation increases.
Price Ceilings: American Prescription Drugs price control
Due to many adverse economic conditions in recent times, many corporations have been forced to lay off a lot of employees in order to maintain profitability. Many elderly people (the deadwood) have borne the brunt of this market trend. As such, they have been forced into partial poverty, considering their dwindling financial independence due to high commodity prices and the diminishing pension monies. Consequently, the United States federal government decided to introduce a price ceiling where the government liaised with drug manufacturers so as to provide affordable prescription drugs to ailing seniors. As is consistent with the forces of demand and supply, serious problems resulted as the government went ahead to set maximum prices below the equilibrium level (Morton, 2001).
This caused consumers to require more of the prescription drugs than the producers had in their stocks. In this case, most profits were transferred from the producers to consumers. Therefore, many consumers scrambled for the subsidized drugs, making the demand for the product to outstrip the supply and, after a short while, the drugs became scarce. Due to the scarcity, the producers had to deal with the rise in production costs of the drugs and the consumers had to wait for the drugs by signing a waiting list. In effect, both the consumers and producers gained a little at first, but in the end, they were negatively affected by the situation (Dicken, 2007). This demonstrates the gain and loss of consumer and producer surpluses, hence creating economic inefficiency.
America and Alcohol: Implications of Tax Increase
Taxes on alcohol have been on the rise in recent times for various reasons. Primarily, many governments have increased these taxes in a bid to control social vices precipitated by alcohol consumption. The increase in taxes on alcohol has decreased alcohol consumption (Community Anti-Drug Coalitions of America, 2002). In competitive markets, taxes lower the price received by the producers and increase the price paid by the buyer. The result is that some people have reduced their intake, whereby the producers paid more due to the inclusion of the tax increase. In this case, the demand is elastic. However, others who are not able to regulate their drinking habits for various reasons and thus forced to buy alcohol, pay the bulk of the tax due to the tax increase (Chaloupka, Grossman & Saffer, 2002). Therefore, a change in elasticity in demand and supply determines who, the producer or consumer, is more affected by tax increases on commodities. Consequently, when demand is more elastic than supply, the producer is forced to pay more. In turn, when demand is less elastic than supply, the consumer will pay more.
As is evident from the information above, price controls or taxation on goods and services reduces economic efficiency in a competitive market and therefore leads to deadweight loss. Consider, for instance, the taxation of alcohol, where the producer is faced with the bulk of costs when consumers are forced to abandon alcohol due to tax increases. Essentially, price ceilings also lead to reduced consumer and producer surpluses’ and thus reducing economic efficiency. Graphically, the results illustrate how the forces of demand and supply affect the various market environments. They also demonstrate how they are affected by various artificial measures, such as government price controls implemented to maintain stability of price of commodities in the market. The analysis of competitive market environment also indicates that the greatest amount of economic surplus will give the greatest amount of economic efficiency and hence reduce the deadweight loss in terms of price controls and taxation. As Goerdeler (1938) avers, government price controls are ineffective and suppress competition, which is healthy for the market environment. This situation leads to lack of achievement, progress or competition, which is a major driver of maintaining business success in the market environment.