What Is Scarcity?
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What Is Scarcity?
Scarcity, in economics, describes a shortage in the supply of a product or service that is inevitably resolved by a higher price. The forces of supply and demand are brought back into balance only when the higher price reduces demand.
This concept holds true in a capitalist economic system in which the government declines to intervene. Other ways to deal with scarcity include quotas, rationing, or price caps.
Key Takeaways
- Scarcity is a limitation on availability and choice.
- Scarcity affects the value consumers place on goods and services, making it acceptable for producers to raise prices.
- Many factors can cause scarcity, including an increase in consumer demand, limits on production capacity, and shortages in raw materials.
Investopedia / Mira Norian
Production and Demand
If the supply of a product is abundant and unlimited, production can be set at a level that meets demand. Scarcity forces producers to increase production or raise prices.
Often, both increased production and increased prices are necessary. Increasing production can be costly, requiring investments in labor, facilities, and raw materials.
Moreover, the scarcity may be due to a limited availability of raw materials or other supplies. A breakdown in the supply chain disrupts production. Or, the supply of crude oil starts running out.
Barriers to Correcting Scarcity
Scarcity also describes the relative availability of factors of production or economic inputs.
Suppose producing a widget requires two labor inputs: workers and managers, with one manager per 20 workers. The available labor pool consists of 20,000 workers and 5,000 managers. There are more available workers than managers.
Yet, workers are a relatively scarce resource, since they’re needed for a ratio of 20 per manager for production, but outnumber managers by a ratio of only 4 to 1 in the labor pool.
Other Tools to Deal With Scarcity
Other ways to deal with scarcity or reduce demand include quotas, rationing, and price caps.
In a capitalist system, these measures are controversial and tend to be employed only during a crisis.
In the U.S., gasoline prices were capped from 1973 to 1979, when tensions with the Middle East reduced the supply of oil. Rationing of many essential goods was imposed during World War II.
Price controls in the U.S. are rare outside of dire emergencies. Some U.S. cities have imposed price caps on housing rental prices to deal with unaffordable prices.
These measures are controversial. At least six states forbid rent control by state law. But cities in six states and the District of Columbia have rent control measures in place.
Important
Scarcity forces consumers to make choices that come with associated opportunity costs. Opportunity cost is the cost of what is given up, compared to the value of the alternative.
Natural Resource Scarcity
Abundant common resources that are over-consumed can prove to be limited in the long run. Climate isn’t a tangible asset and its value is hard to calculate, but the costs of climate change are paid by companies, societies, and individuals. Air is free, but clean air has a cost in terms of the economic activity discouraged to prevent pollution.
Some natural resources may appear free because they are easily and widely accessible, but they eventually prove scarce as they are depleted from overuse. This phenomenon is known as a tragedy of the commons.
Economists increasingly view a climate compatible with human welfare as a scarce resource because of the cost of protecting it.
Governments may require manufacturers and utilities to invest in pollution control equipment, or to adopt cleaner power sources. Governments and the regulated industries eventually pass those costs on to taxpayers and consumers.
Scarcity and the Market
Scarcity may denote a change in a market equilibrium raising the price based on the law of supply and demand. In those instances, scarcity denotes a decrease over time in the supply of the product or commodity relative to demand. The growing scarcity reflected in the higher price required to attain a market equilibrium could be attributable to one or more of the following:
- Demand-induced scarcity reflects rising demand
- Supply-induced scarcity caused by diminished supply
- Structural scarcity attributable to mismanagement or inequality
Does Scarcity Mean Something Is Hard to Obtain?
Scarcity means a product is hard to obtain or can only be obtained at a price that prohibits many from buying it. It indicates a limited resource.
The market price of a product is the price at which supply equals demand. This price fluctuates up and down depending on demand.
When Is Scarcity Intentionally Created?
Intentional scarcity is a strategy to protect the price of a product. Prescription drug prices are an example. Companies that develop new drugs obtain patents that prevent competitors from selling copycat products for a time, usually 20 years. This intentionally creates scarcity, allowing inventors to profit from the cost of development.
How Does Monetary Policy Affect Scarcity?
The U.S. Federal Reserve controls the nation’s money supply. When governments print too much money, the value of the money decreases. However, too much money can lead to inflation.
The central bank tends to keep the money supply relatively scarce. The main contractionary policies employed by the United States include raising interest rates, increasing bank reserve requirements, and selling government securities.
The Bottom Line
In a capitalist system, the market price of a product is the price at which supply equals demand. But this price is far from static. When demand exceeds supply, the price of a product increases until some consumers buy less of it or stop buying it. As a result, overall demand decreases, restoring the balance between supply and demand.
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