How are black market prices determined ? Do they tend to be lower than the normal price as it would be in a free market? What tends to be the output of a commodity that finds its way into black markets? Does it exceed or fall short of the normal output? This is a new field of enquiry which has opened up in the wake of war and post-war price controls and rationing. For, since these controls have been introduced, black markets have been a common phenomenon almost everywhere.
Not enough has yet been done, it appears, by our economists to analyse the affairs of the black markets. We have had a lot of discussion concerning the difficulties arising from the heterogeneity of products within the same industry, differences in the costs of different firms, vagueness of the needs of consumers, etc. We have also been told about the possible failure of price control measures in view of the illegal transactions that ‘shortages’ would inevitably call forth. But the actual operations of the black markets, in spite of their wide prevalence, have been left practically alone. So market prices is important.
But not entirely. Kenneth E. Boulding’s Economic Analysis contains an ingenious theory of black market prices, although even here, as the present paper purports to show, the matter has been presented in too simpliste a fashion and the essential character of the phenomenon has been lost sight of. The following diagram is the basis of Boulding’s analysis D and S represent the normal demand and supply curves as they would be in the absence of control. PN would then be the normal price, and ON the amount bought and sold. If, now, OR is fixed by the State to be the maximum price at which buying and selling are legally allowed, the quantity supplied comes down to RT and the quantity demanded goes up to RV. To relieve the congestion of demand the commodity is rationed. But since the available supply in the legal market is only RT, many willing buyers go unsatisfied, and an illegal market develops. So market prices is important.
What are the demand and supply conditions in this illegal market? Here is Boulding’s own story: ‘We can postulate a “black market supply curve”, TSB lying to the left of the normal supply curve TS. As operations in the black market involve a certain cost and risk above what would be necessary in a free market, suppliers are not to be found willing to supply as much at each price in the black market as would be done in the free market; in other words, because of the higher costs it now takes a higher price to call forth any given quantity than it did before. The higher the costs of black market operation, the steeper will TSB rise. We can similarly postulate a black market demand curve, T’Db. Even at the legal maximum price (OR) we may suppose that not all potential buyers are willing to buy in the black market so that the quantity demanded in the black market at the price OR is not the total unsatisfied demand quantity, TV, but a smaller quantity TD6. Then the black market price is Nlt and the quantity bought and sold in the black market is TK, RK being the total quantity in the legal and the black market combined, and RT the quantity in the legal market.’ It is further argued that in case there are no penalties of any kind, legal or moral, attached to purchases in the black market, the black market demand curve will be the same as the normal demand curve, DP2, so that, with TSB as the black market supply curve, the black market price will be as high as P2 Nt. On the other hand, if suppliers are unmolested and penalties are placed only on black market buyers, the black market price will be as low as P3 Na.
Boulding derives the following conclusions from his analysis of the black market: First, the black market price may be less than the normal price as it would be in a free market; -PiA, as the diagram shows, is less than PN. Secondly, the average price in the legal and the black market together is likely to be less than the normal price, so that ‘even if a black market develops as a result of price control the resulting average price is less than that which would have obtained in a perfectly free market.’
And, thirdly, the more rigorous are the measures taken against the black market buyers the lower is the black market price, and the larger the penalties placed on sellers, the higher is the black market price the inference from this being that ‘other things being equal, it would be better to penalize the buyers rather than the sellers in the black market, the housewife rather than the grocer.’ So market prices is important.