The equilibrium price then rises from P1 to P2 and the equilibirum quantity moves to the left by 1 million metric ton. The increase in the price of rice brought advantages to the country. One of it is the increase in the total revenue of rice producers. Rice is a commodity good where the price elasticity demand is inelastic. Price elasticity demand is the responsiveness of quantity demand to the change of price. Inelastic refers the condition where the quantity demanded is less responsive to the change in price. The following graph shows an inelastic demand curve of rice market.
As the total of producers gain is greater than the total number of loss, the producer receives an advantage of higher revenue from the tragedy in Thailand. Total revenue is the result of the multiplication of the quantity sold to the price of the product. Despite the advantage, the rise in price of rice has brought disadvantage to the customers. As the quantity supplied of rice is decreased, therefore they are unable to buy a larger quantity of rice and as its price goes up it increases their portion of real income spent on rice, as it is a staple food.
Thus, it results to the opportunity cost of decreased remaining real income that could be spent on other goods. Opportunity cost is the cost of the best alternative good sacrificed when a choice is made. Due to opportunity cost, the producers of non-commodity products would then be harmed as the quantity demanded for their product falls and therefore their total revenue decreases. To survive, producers will raise the price and thus harm the consumers. Thus, a solution shall be made to avoid further loss of customers.
One of them is to apply a maximum price of rice in the country. Maximum price is the price set up by the government below the equilibrium price in order to help the customers, due to the high prices of certain commodity products. As seen on the graph, the maximum price is set at Pmax, below the equilibrium price of Pe. With the imposition of the policy, the customers are able to purchase rice at low price. However, with rice supplied at the maximum price, customers are demanding rice at point QD, while the quantity supplied is at Qe, which leads to a shortage.
Shortage is the excess demand of goods and services. In consequence, to satisfy the demand of customers, black market might arise. Black market is a situation where the product is sold illegally at a higher price than Pmax. The seller of the rice might also apply unfair practices to customers such as rationing, where the amount of product is shared equally among customers, creating limitation of consumption. Another solution to avoid shortage is to import the supply of rice from overseas.
Import is when a country purchase goods and services overseas. The supply curve then shifts to the right and Pmax becomes the new equilibrium price, thus black market and rationing would not arise. Though it would still bring disadvantage to the domestic producers of rice. The imported rice would be a new substitute good to the high-priced domestic rice. The quantity demanded for locally produced rice will decrease and thus the total revenue of the local producer decreases.
Another disadvantage is the occurrence of trade deficit, because the countrys import increases and we assume the export remains constant. Trade deficit is the negative balance where the countrys import is greater than its export. Looking at the advantage given by maximum price solution, it is more beneficial for Thailand to increase the producers revenue rather than to prevent illegal practices. Thus, implying maximum price as a solution is more effective compared to importing supply of rice.