A sign in the window of the front office of the Mountain Village Lodge in Stanley this past weekend asked people to be kind because they are short staffed. Regardless of staffing, that’s a reasonable request generally. As to the reason, though, the sign pointed to the latest crisis — a worker shortage. News reports abound about worker shortages, so this “crisis” is certainly not specific to Stanley or to Idaho.
It’s not just a worker shortage, either. A colleague of ours recently brought to our attention news about a shortage of foam. The foam shortage is causing all kinds of construction delays. Then there’s Costco’s reinstatement of limits on purchasing toilet paper, presumably to stave off a shortage. Perhaps the real crisis is news of a shortage of children’s toys for the holidays, which sounds like some 1980s television Christmas special — Santa is canceling Christmas because of a shortage!
With all this talk about shortages we feel the economic meaning of a shortage is getting lost. Shortages are a function of prices. Specifically, a shortage means that at a given price the quantity demanded of a good exceeds the supply of the good. Further, shortages should not be confused with scarcity. Resources are scarce; that is a fact of life. Not everyone can have everything they want all the time. Shortages have very little to do with scarcity per se and everything to do with how we allocate scarce resources.
Why is the distinction between shortage and scarcity so important? Because the policy prescription for handling shortages depends critically on a proper diagnosis of the problem. The problem is not the shortage. The shortage is the symptom. The problem is that prices are not adjusting so that the demand for goods is equal to the supply of goods.
In a free market, a seller who observes customers buying lots of their product or whose stock is limited because of, say, supply-chain disruptions, has an incentive to raise the price of their existing goods, lest they run out of product to sell. This price increase sends two very important signals to the market. First, the goods that are left to be sold get allocated to whoever values them most, determined by their willingness to pay. Second, the price increase sends a signal to producers to make more of the good. In one fell swoop, the shortage vanishes and production increases, fixing the problem in both the short term and the long term.
So why are we experiencing shortages in 2021? Simple. Prices are not adjusting. Why are prices not adjusting? Now that problem would take more than one Idaho Business Review piece to explain. What we will say is that good reasons do exist for not allowing prices to increase. Equity concerns are one. Willingness to pay depends on how many dollars you have, and those without dollars will inevitably lose out to those who have them. We leave it to the reader to make their own assessment about the degree to which dollars are earned and deserved, and therefore willingness to pay is a fair way to express who values a resource most.
Another reason policymakers might not want prices to adjust is inflation, which has reared its ugly head this year. Limiting price increases because, well, we do not want prices to go higher does not sound like a particularly convincing argument to us. The key to remember is that prices are signals and preventing the signal from flashing only makes things worse.
Ultimately, we think what is most important is that people understand that today’s shortages are a symptom of prices not adjusting, not a throw-your-hands-up lack of resources. Make no mistake, lots of factors can get in the way of price adjustments. Our point is that we face a tradeoff. We can try and let markets work their magic through price signals and absorb the pain that comes with higher prices. Or we can mute the price signal and live with empty shelves, lack of staff and not enough foam. Pick your poison.
This article was written by Kevin E. Cahill, Ph.D.; Melissa Carson and Annalise Helm. Cahill is a senior economist with ECONorthwest. Carson and Helm are analysts at ECONorthwest. The views expressed in this article are solely those of the authors and do not necessarily reflect the views of ECONorthwest.