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PRICE MECHANISM AND PLANNING

PRICE MECHANISM AND PLANNING. MEANING.

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PRICE MECHANISM AND PLANNING

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  1. PRICE MECHANISM AND PLANNING

  2. MEANING Systemofinterdependencebetweensupplyof a good or serviceand its price. It generally sends the price up when supply is belowdemand, and down when supply exceeds demand. Price mechanism also restricts supply when suppliersleave themarketduetolowprevailingprices, and increases it when more suppliers enter the market due to highobtainable prices. Also calledprice system. Price mechanism is an economic term that refers to the buyers and sellers who negotiate prices of goods or services depending on demand and supply. A price mechanism or market-based mechanism refers to a wide variety of ways to match up buyers and sellers through price rationing. An example of a price mechanism uses announced bid and ask prices. Generally speaking, when two parties wish to engage in a trade, the purchaser will announce a price he is willing to pay (the bid price) and seller will announce a price he is willing to accept (the ask price).

  3. In the diagram, let us assume that the price is P2 temporarily. At this price, demand is quite low (Q3) but firms wish to supply quite a lot (Q2). We have excess supply equal to Q2 - Q3. Firms find that they have a glut of unsold goods. This is not a 'state of rest'. If you were one of those firms, what would you do? I would probably reduce the price a little (have a sale, maybe?) until I could sell off all my excess stock. Applying this to the diagram, the price would fall until firms reached a position where they no longer experienced excess supply. This occurs where supply equals demand, price P1, quantity Q1. You may have heard of the 'invisible hand', Adam Smith's famous metaphor that tries to explain what is going on here. Nothing physically forces the price down; it just happens naturally, or 'invisibly'!

  4. Now let us assume that the price is P3 temporarily. Now we have a situation when the price is relatively low, so the demand for the product (Q4) is much higher than the amount firms wish to supply (Q5). We have excess demand equal to Q4 - Q5. Now firms find that they sell their stock very easily and there are customers queuing at the door wanting more! What would you do this time if you were one of those firms? I would be thinking that I could get away with raising my price given the popularity of the good. I would keep doing this until there were no longer queues outside my door and the demand for my product matched the amount I supplied. Again, this will occur where supply equals demand, price P1, quantity Q1. The invisible hand is at work again!

  5. PRICE MECHANISM AND ECONOMIC PLANNING Price mechanism is possible under economic planning. In this respect,the economists have the following view points. Price Mechanism is not operative in economic planning:- In the opinion of economists like Prof.H.H.Gossen, Keynes, Hayek etc.operation of price mechanism is not possible under economic planning. In the words of Mises,” A free price system, of course, would not work in a planned economy”. Main causes of price mechanism are as under: • Absence of assumption: Operation of price mechanism is based on certain assumptions which are not found in economic planning. For instance, assumptions of price mechanism like, lack of external interference, free economic system, etc. are not there under economic planning. In case of economic planning, elements of price mechanism such as cost, price, profits, etc. are not determined independently. These elements are very much controlled by the planning commission. Hence, under planned economy, opration of price mechanism is not possible. • Absence of economic calculations: Economic calculations are conspicuous by their absence under economic planning. In the words of Mises, “without economic calculations there can be no economy. Hence in a planned economy wherein in the pursuit of economic calculations is impossible there can be no means of determining what is rational and it is obvious that production would be never be directed by economic considerations.” • Absence of free competition: There is absence of free competition in the economy due to economic planning.consequently; there is no perfect knowledge about the economic interest of consumer and producers. • Absence of private ownership: Operation of price mechanism is based on self-interest and rational decisions. It is possible under the condition of private ownership. Hence; there is no place for individual interest and private motive. • Absence of relative forces of demand and supply: Equilibrium of demand and supply is possible only under free market economy. Prices so determined do not reflect correctly the availability or the scarcity of the goods and the factors.

  6. MERITS OF PRICE MECHANISM • Transaction costs will be eliminated:- For instance, Uk firms currently spend about £1.5 billion a year buying and selling foreign currencies to do business in the EU.With the EMU this is eliminated, so increasing profitability of EU firms.Advice to young people:You can go on holiday and not have to worry about getting your money changed, therefore avoiding high conversion charges. • Price transparency:- Eu firms and households often find it difficult to accurately compare the prices of goods, services and resources across the EU because of the distorting effects of exchange rate differences.This discourages trade. According to economic theory, prices should act as a mechanism to allocate resources in an optimal way, so as to improve economic efficiency. There is a far greater chance of this happening across an area where E.M.U exists.Advice to young people:We can buy things without wrecking our brains trying to calculate what price it is in our currency. • Uncertainty caused by Exchange rate fluctuations eliminated:- Many firms become wary when investing in other countries because of the uncertainty caused by the fluctuating currencies in the EU. Investment would rise in the EMU area as the currency is universal within the area, therefore the anxiety that was previously apparent is there no more. • Prevent war The EMU is, and will be a political project. It's founding is a step towards European integration, to prevent war in the union. It's a well known fact that countries who trade effectively together don't wage war on each other and if EMU means more happy trade, then this means, peace throughout Europe and beyond (we hope).

  7. CONCLUSION:- In short, operation of price mechanism is possible under economic planning. Planning authority can make use of it in an appropriate way. On the other hand ,it serves as a means of evaluating production and cost of production is based on accounting prices and cost. On the other hand, it motivates people to work according to the targets of plans. In this way, price mechanism under economic planning is superior to price mechanism under free market economy in several aspects.

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