4.4 Maximum Price (Price Ceiling) Flashcards
What is a maximum price?
A price ceiling normally set below the equilibrium market price
Why do Governments impose maximum prices?
Governments impose maximum prices to improve the affordability of essential goods and services and reduce income inequality.
Maxiumum Price Diagram Analysis
Implementing maximum prices or price ceilings results in a decrease in prices from P1 to P2, causing an extension of demand to Qd and a contraction of supply to Qs. This creates an excess demand (a shortage) of AB in the market.
Producers lose out considerably with lower revenue from P1CQ10 to PZAQs0 and lower producer surplus.
Diagrammatical
What is the impact of implementing maximum prices?
Implementing maximum prices or price ceilings results in a decrease in prices from P1 to P2, causing an extension of demand to Qd and a contraction of supply to Qs. This creates an excess demand (a shortage) of AB in the market.
How can the government reduce income inequality through maximum prices?
The government may implement maximum wages in the labour market or caps on bonuses for those earning very high incomes, which can prevent the extent to which wages can rise, reducing the gap between rich and poor in society and thus reducing income inequality.
How can rent control improve living standards?
Implementing rent control can improve the affordability of housing for those who cannot afford it in the free market. This allows them to access housing and can improve their living standards. Rent control is one way in which governments may seek to improve the affordability of essential goods and services like housing or food.
How do consumers benefit from lower prices in the market?
In one sense, consumers benefit from lower prices in the market as it increases their consumer surplus and makes essential goods more affordable, improving the living standards of the poor in particular.
What are the drawbacks for consumers when maximum prices are implemented?
While some consumers benefit from lower prices, many are not able to access the essential goods or services despite the lower prices as many existing suppliers have left the market or are not willing to supply at such a low price. These consumers receive no benefit and must suffer from being on long waiting lists with uncertainty, queuing, and significant competition with other buyers.
What are the consequences of the formation of a black market?
Eval
The formation of a black market is a market failure and is an unintended consequence created by the government. It also needs policing which is costly, increasing the cost of the policy. The outcome could well be government failure where the costs of intervention outweigh the benefit, creating a misallocation of resources where one didn’t exist before.
What do producers and workers lose out on with lower revenue?
Producers lose out considerably with lower revenue from P1CQ10 to P2AQs0 and lower producer surplus. A lower price may lead to many producers leaving the market for low-cost housing and switching their resources instead to more lucrative forms of housing resulting in lower quantities supplied in this market from Q1 to Qs. Workers could also lose their job with less quantity produced.
How does the government deal with the excess demand created by maximum prices?
The government may deal with the excess demand created by maximum prices by subsidizing producers in the market, which would lower their costs of production, shifting the supply curve to the right to satisfy the excess demand. Another option would be for the government themselves to supply the excess demand either by building new housing or by releasing any stocks of food they have stored onto the market. Both options are very costly which carries a large opportunity cost. Funding may come from tax rises in the future or spending cuts to public services both of which will hurt consumers.
What is the impact of implementing maximum prices on total consumer and producer surplus in the market?
In distorting efficient market outcomes, the government has reduced total consumer and producer surplus in the market generating a deadweight welfare loss of triangle ACD, reducing society surplus.
How can the government reduce the extent of the excess demand problem?
Eval
The government can reduce the extent of the excess demand problem by excluding those who clearly can afford the good or service. Perhaps to be eligible for rent control, incomes must be below a certain threshold and living time in a city must be beyond a certain number of years. This would reduce the need and thus the cost of excessive government intervention to increase supply and it would mean that only those who are in need of lower prices to access these goods benefit.
What argument supports the government’s intervention in reducing income inequality and lack of access to essential goods?
Eval
It can be argued that income inequality and a lack of access to essential goods like housing and food is a market failure. In which case, by reducing the price and improving access for some low-income consumers rather than allowing the rich to over-consume, the government may be improving resource allocation negating the government failure and deadweight welfare loss arguments
