Markets are the most efficient allocation mechanism
The producers supply the goods according to the prevailing economic situations and consumer demand. Fundamentally, price mechanism, the three economic questions of what, how and for whom to produce plays an essential role in resource allocation. Essentially, the market system integrates information on the scarcities of goods, services, financial capital, and labor. In such a case, market participants have to revisit decisions that they made earlier. Such decisions culminate in the interaction of demand and supply to attain equilibrium. Higher prices are an incentive to producers, primarily when they respond by raising supply. However, when demand is low, may be due to recessionary occurrences in the economy, producers can intuitionally cut production to correspond with the slackened consumption in the market (Wang, 2006).
As a rationing mechanism, prices determine the allocation of economic resources according to the needs and preferences of the society. Inadequate supply will be met with high prices and vice versa. The economic implications of the high price are that low-income earners with lower disposable income will be unable to afford the goods. Similarly, when prices of products escalate, consumers do not have to analyze the market to determine the price changes into causative factors; but are only obliged to either accept or reject the commodity on the grounds of prevailing prices and state of the economy. Also, producer focusses less on the causative factors of the price hike, but rather on how to expand supply. For instance, a rise in the price of tea leaves will force suppliers to expand supply but will not agitate them into investigating the cause of the increase was due to the medical recommendation of tea consumption as a source of warmth for the body during rainy seasons (Rios et al.
The free market system allows markets to transmit information to all the sectors of the economy, as well as sections in the production unit. Changes in the prices of financial capital, labor, and goods are laid bare through the interaction of demand and supply. Moreover, it limits market participants’ flexible reaction throughout the economy (Gowdy, 2009). The decision on what and how much to produce entirely depend on the prevailing policies in the economy. Prices as a signal is a measure that can help in deciding what kinds of commodities the consumers need. Through the joint interaction of consumer and producer in the market, suppliers can establish goods needed in the economy. As a signal, consumers can create what these goods are and how they will be produced.
In whichever policy, there appears to occur a misallocation of resources. Excess production means wastage, and deficit production leads to insufficient supply which magnifies economic starvation. As a result, a market system that relies on price mechanism as a tool to determine how and what to produce is essential in promoting the efficient allocation of resources among competing needs. While the market mechanism is envisaged as a pleasant economic system, market failure has ever reminisced. The failure occurs when the signaling and the incentive roles of the price system fail to generate maximum output leading to loss of economic welfare. Similarly, raw materials with low value could be allocated to produce goods that meet the demand needs of those in the lower value rank (Bobzin, 2012).
Consequently, the behavior of consumers will respond according to the dominant market determined conditions. In conclusion, a market mechanism is an effective tool in making economic decisions about what and how to produce as well for whom to produce. Since resource are limited while consumers needs are insatiable, efficient allocation as determined by Pareto principle becomes the most preferred tool in solving production and consumption puzzles that may confront an economy. The interaction of prices and supply helps in limiting occurrences of misallocations of resources which leads to economic inefficiency. Chan, Nathan W. , and Kenneth Gillingham. "The microeconomic theory of the rebound effect and its welfare implications. " Journal of the Association of Environmental and Resource Economists 2. Cowell, Frank A. McConnell, and Stanley L.
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