Can The Market Deliver The Right Price?

As you know, price is determined by supply and demand. The market is the only place where supply meets demand to yield the right price. The market is never perfect and is never free although we like to think it is. Therefore the price is always subject to how free the market is and how the market functions.

In a communist economy, there is no such thing as a market. The market is imagined by the planners, who determine what and how much the people need. In the absence of a real market, supply and demand cannot meet. Price becomes artificial and must be fixed by the planners. A black market tends to develop in a communist country where the price reflects the real supply and demand situation.

In a capitalist economy, although a real market seems to exist for everything, the price is subject to all kinds of distortions. It’s easy to blame it all on government regulations. In fact, big companies are the culprits that cause all the distortions due to the power they possess. Why? Big business hates competition because it keeps prices down and cuts into their profits. Hence they will do everything they can to shut out competition while small business must compete hard to survive. The worst price distortion is caused by big business colluding with corrupt politicians, thereby gaining a free hand to squeeze the consumers however they please.

Competition is the key to a free market. The more intense the competition, the freer the market becomes. All price distortions are boiled down to the erosion of competition in the marketplace. Competition in turn depends on product substitution. If no substitution exists, the supplier can raise the price as high as they want. Oil is a good example unless an alternative is available on a mass scale in the transport sector. In view of the volatile situation in the Middle East where most of the oil reserves are located and controlled by OPEC, the price of oil is subject to a web of complex factors including speculation and political manipulation.

What about financial products such as investment funds, stocks, and house mortgages? They are subject to a special kind of distortion known as financial creativity characterized by technical complexity and non-transparency. Financial products have a tendency to create bubbles because most people do not understand the technicalities. Hence they follow where speculation leads them. Besides the great housing bubble we saw a few years ago, numerous stock market bubbles have come and gone before.

Another sector is health care where prices are subject to big distortions. Everybody takes good health for granted unless getting sick. When you become sick, how much do you want to pay to get better? Demand for health care is erratic at young age, and increases when getting older. The young generation seldom sees a need for health care, even for prevention. Besides, health care involves a lot of science and technicalities where people either misunderstand or get confused. This opens an opportunity for the medical and pharmaceutical professions to charge a high price.

In basic agricultural commodities such as vegetables, fruits and meats, prices tend to reflect real supply and demand because there exist true competition and product substitution in the marketplace. When beef is expensive, people will switch to other kinds of meat. When cherries are not in season, people will switch to other kinds of fruits. People also consume more if good weather produces an over-abundance that drives down the price.

Electronic products represent a special sector where technological advance drives down the price and creates additional demands. The technology is highly non-transparent due to its complexity. But it does not matter as long as the product performs better and costs less. It’s the utility and the satisfaction that count. Competition reigns in this sector where success depends on beating the competition rather than stifling it. Hence the competitive electronic market usually yields the right price.

For many important things in life, a market does not even exist because we either ignore them or think that they don’t have a present value. Health is one, education is another, infrastructure is a third. What about the environment that is either ignored or taken for granted? Few people think about the environment unless the food, water, or air in their locality is polluted. Few people care about fixing the environment because of the high costs and the fact that it can be delayed for another year. All of the above represent investments to better the quality of life for the future where the market has proved unable to handle effectively. As a consequence, we don’t have a right price that reflects the true value.

March 2012

This entry was posted in Economics/Politics, Environment, Health Care. Bookmark the permalink.

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