Scarcity is a simple economic term that refers to the gap between supply and demand, looking at the concept of "there's just not enough to go around". Typically, when a resource or asset becomes scarce this instigates an increase in price. Let's learn more about scarcity and how it differs from shortage, and how it pertains to the investment world.
What is scarcity?
According to economics, scarcity is the lack of plentiful resources in comparison to theoretically infinite wants. This term refers to this definition: any resource with a non-zero cost associated with consuming it means that it's scarce to some degree.
The concept of scarcity often drives people to make decisions about how they want their resources allocated so that everyone can satisfy not just their basic needs, but also additional wants whenever possible. That covers what is scarcity, let's explore what causes it.
What are the three causes of scarcity?
Scarcity is a term that economists use to describe the limited availability of a good or resource, turning some things that might have once been abundant into scarce resources. The root causes can be broken down into three categories:
- Demand-induced scarcity: when consumer demand outways supply, e.g. face masks in the wake of the global pandemic.
- Supply-induced scarcity: This happens when outside forces make a resource less attainable, decreasing supply with little impact on demand. E.g. commonly with a natural resource, such as water in a drought.
- Structural scarcity: When some have greater access to a resource than others. Structural scarcity often happens because of political or economic reasons.
Scarcity in the sense of natural resources
We usually think of scarce resources as natural resources that exist without humankind's intervention, like gas, coal or water. Most of these natural resources have a limited supply. While some we can produce (food), others will be gone forever once used up (oil).
The scarcity of natural resources is also generally increased when populations increase. However, this brings in relative scarcity, which is the scarcity of a resource in one region while not in another (more on this below).
Scarcity in economics
Economic scarcity is when the quantity individuals want to purchase exceeds the amount available for trade. This typically drives the price up. Looking at Bitcoin as an example, with a finite number of 21 million coins to ever exist, the more scarce the coins become, the higher the potential for the value to grow.
Scarcity vs shortage
While scarcity and shortage might sound like interchangeable terms, there are several key differences between these terms, and very different causes.
Scarcity looks at the limited availability of something that cannot be replenished, natural resources for example. On the other hand, a shortage refers to a market phenomenon where the demand for something is greater than the quantity supplied at the market price.
When the market is balanced, there is an equal amount of supply and demand for a product. If these become unbalanced, we can have a shortage. Several things can create this scenario.
Firstly, it could be a result of increased demand. This is rarely permanent and can easily be reproduced. Secondly, it could be a result of a decreased supply. If the costs of a product increase causing the manufacturers to create less, and the demand stays the same, this will result in a shortage. In both instances, changes to the market can fix this.
The main difference between scarcity and shortages is that shortages can usually be solved by altering supply and demand. With scarcity, however, there is a limit on the amount of a resource available with little that can be done to fix this.
How does relative scarcity work?
Relative scarcity is when the distribution of resources can cause a resource to be less scarce for some but not for others.
For example, in water-rich areas, people seemingly never have to worry about running out of water as the supply is limitless while in other areas people have no access to clean running water. In water-scarce areas, the costs increase, and authorities and citizens have to decide how to efficiently allocate resources.
This relative scarcity concept can make a natural resource abundant in one area and a scarce resource in another. This is most often the case with raw materials and free natural resources.
The same can be said about land prices when you compare the prices of properties in the countryside versus in the built-up city. Authorities cannot simply produce more land, so the prices increase alongside demand.
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