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There is a statement in the book “Non-binding constraints have no shadow pricing”. That means shadow pricing will be when its “binding constraints” right?
“binding constraints” by definition means there is no slack at optimal points. So if there is no slack in those points then how come there will be shadow pricing. Because shadow pricing by definition is all about charging a premium for scarce resources (meaning, there’s slack)
Please help me clarify this point to me.
Hi there= Thanks for your query -I think you’ve misunderstood the term slack here…
Yes correct there will be no slack at binding constraints. Slack means there is spare capacity/ ie an under-utilised resource exists… such as spare materials or unused labour hours .Therefore, if slack exists then shadow price will be zero because the company will not be prepared to pay extra $$ to receive an additional unit of scarce resource -because they have excess already.
Binding constraints DO have a shadow price because the company would pay something to buy an extra unit of those resources which are fully utilised at the optimal point.
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