Question

Because of scarcity, we have a price system. What functions does this price system perform? What happens when the price system for certain goods or services does not produce a socially acceptable outcome (example, low-cost housing): are there any alternatives

Answer 1

Price is a market-based system which should reflect the value of a product or services. Price in a capitalistic system is determined by forces in demand and supply, so it performs as an indicator of the magnitude of demand and supply. If demand increases, leads to an increase in price which means in a scare economy (signalling function), price ensures the optimal allocation of resources. Changes in the level of scarcity which reflects in the demand and supply will lead to changes in the price level in order to have an efficient utilisation of resources. it works to ensure equilibrium in the economy.

When price does not reflect the actual value of a product, it fails to provide the signal which causes the loss in social welfare. In this case, the free-market system may lead to under or over-consumption and inequitable distribution of resources due to the externality. Therefore certain Government intervention is needed to ensure optimal allocation of resources. Many Public goods like road, Public park, and water resources etc. have managed by the government due to price system does not work. So government intervention is an alternative option which can serve society in socially desirable manner and to ensure society have enough supply of all resources. For example, no any individual producer have the incentive to make a road or street light simply because price system does not work. Hence, alternate is government function to provide these thighs to society.