Question

Q.16

a) The government is currently considering setting a maximum price (price ceiling) for basic goods to ensure that people can get access to these goods at this current time. Fully explain your answer and also use a single diagram to demonstrate the likely outcomes of this policy if the maximum price is set: 1. Below the current free market price 2. Above the current free market price 3. At the current free market price

b) The Australian government has implemented a number of microeconomic reforms over the past 40 years including deregulation of banking. Do you think banking deregulation has been beneficial or not? Explain your answer. Describe what you think may be the difficulties with microeconomic reform in Australia and highlight an area that you think currently requires microeconomic reform. Justify your answer.

Answer 1

  

    In case of a free market mechanism , the market forces of demand and supply intersect and the market equilibrium price is set—point E where market demand and supply intersect. In such a situation , the naturally acting forces determine the market equilibrium position. At ‘ab’ there is excess demand and at ‘cd’ there is excess supply in the market.

a. 1. A price of P₁ means that it is a price below the market price ‘P’.   As per price mechanism it leads to a situation of excess demand to the extent of ‘ab’, leading to a price rise . In case of governmental regulation , the price is limited to P₁. Since the Australian government is considering setting a maximum price for basic goods , it will set the legal limit to pricing of basic goods as they are necessities and will be purchased by the low income earners as well who will not be able to afford it at market price of ‘P’.

2. If the price is set above the equilibrium price , which is usually done for demerit goods or harmful goods like cigarettes, tobacco and so on, or for setting a wage legislation in low skilled occupations where there could be exploitation of labour by paying low wages.

In the diagram, P₂ is the price , set above the equilibrium price of P. In case it is set for harmful goods then some buyers with elastic demand ( like smokers who smoke less) may withdraw their purchases at such high prices , the government would have attained its objective of reducing the consumption of harmful commodities. In case it is set as a wage legislation then the price level will be beneficial to workers and market supply of such workers will rise, however the market demand will fall as employers may not be willing to employ for a higher wage rate as it would lead to a hike in costs of production and a wage-price spiral.

b. Microeconomic intervention is usually undertaken for a more justifiable allocation of the available resources . The Australian government is spearheading such a reform to boost its productivity and thereby its economic growth.

Banking deregulation has been advantageous especially with the division of specialists banks from the regular commercial banks. It has allowed the growth of competition in the banking sector and has led to its growth. The deregulations mean that the sector is more governed by the market forces of demand and supply. This has improved competency and efficiency. It has also led to intensive banking operations.

However, deregulation also means that ‘exploitative’ tendencies might rule the ‘ banking ‘ structure. The banks become keen competitors trying to control the market and gaining leadership and market dominance. This may lead to exploitation of salary earners and other low income groups , especially small firms.

Perhaps , financial sector needs more regulations and govenmental monitoring since its operations cover a wide range from big firms to individul salary earners.