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Price Ceiling Explained

Price Ceiling Explained

Since ages, governments and people in power have tried to control the prices of commodities by enforcing price ceilings. Such controls, which are intended to benefit certain sections of society do not provide the intended benefit, and on the contrary, end up harming the interests of certain sections of society.
WealthHow Staff
A price ceiling is a micro-economic concept that can be implemented in an economy, within a single market, or within a single industry. It is a cap or ceiling on the prices of a commodity that is often implemented by the government, or by all the sellers collectively, who operate within that very market. The concept is quite simple and is often used to ensure the welfare of people.

About Price Ceilings

Several times, you may have come across the terms price ceiling and price floor. These two concepts are integral factors of the consumer economy and market. The logic is fairly simple. The price of any commodity is valued in accordance with the volume demanded and volume supplied. The higher (more units demanded) the demand of goods, the higher is going to be the price, and more the supply against less demand, the lower is the price. This logical principle was stated in the book, Wealth of Nations by Adam Smith. In order to understand the concept properly, we need to understand the phenomenon of normal markets. Based upon a specified costing and accounting procedure, the appropriate cost of a commodity is defined. This cost is later modified in accordance with the units that are demanded per year, day, month or week, by consumers. The aforementioned principles of demand and supply analysis thus come into the picture.

In cases where high demand and low supply are observed, the price escalates beyond limit, and it becomes difficult for common consumers to get commodities. In situations where the price escalates naturally, or as a result of uncontrollable conditions, the government takes measures through banking and fiscal systems. However, often, there are situations where suppliers use unethical means, such as artificial scarcity, disappearance of goods, black market transactions, and hoarding, to increase the demand over time. The government puts a cap on the level of sale price in such a situation to achieve market equilibrium. This kind of policy, in most cases, is used to curb the cost of essential goods and commodities, such as food, medicines, etc. The basic aim of implementing such a price control is to ensure that people do not pay exorbitant costs for commodities of survival. There are two types of ceilings, namely, binding and non-binding price ceilings. On a demand-supply graph, there is a point of equilibrium, a place where the supply units and units demanded derive the price of a commodity. The binding ceiling is determined to prevent unethical price rise and related activities, and hence, it is always below the point of equilibrium. On the other hand, in order to check the inflation and general price levels, governments and companies in a specified industry impose the price level. In several cases, a 'maximum retail price' is mentioned on the product, which is of course a ceiling, or below the said ceiling.

Real-life Examples

There are several real-life examples of price control which are observed, and following are some prominent examples.
  • Medicine: Medicine is largely a necessity for survival; hence, there are several cases and products where price ceiling is used to keep the retail cost to bare minimum. As a general principle, the cost of basic drugs and medications is usually kept within the paying parity of the people, that is, the average per capita income.
  • Rent: An excellent example is rent. Cities like New York and Helsinki have such restrictions imposed on the prices for the convenience of the people.
  • Retail Food: Certain nations, which have a hint of socialism in their economy, have a minimum retail price that is printed on the product.
Binding price ceilings have side effects on the overall health of the economy. There are several instances of black marketing, several cases where people engage in activities such as artificial scarcity. Such side effects are thus inevitable.