chapter 3 from the book: The Analysis of Competitive Markets Flashcards
what do government imposed price ceilings do?
cause the quantity of a good demanded to rise (at the lower price, consumers want to buy more)
the quantity supplied to fall (producers are not willing to supply as much at the lower price)
creates a shortage
what must we take into account with government imposed price ceilings other than the consumers that managed to get their hands on the goods at a lower price?
we must take into account those who cannot obtain the good, how much better off are consumers as a whole?
if we lump consumers and producers together, will their total welfare be greater or lower, and by how much?
consumer surplus
total benefit or value that consumers receive beyond what they pay for the good
the area below the demand curve down to the market price
how can we measure the overall gain or loss to consumers from a government intervention?
by measuring the resulting change in consumer surplus
producer surplus
total benefit or value that producers receive beyond what they sell for the good
the area above the supply curve up to the market price
how can we measure the overall gain or loss to producers from a government intervention?
by measuring the resulting change in producer surplus
which consumers are worse off with imposing a price ceiling?
those who have been rationed out of the market because of the reduction in production and sales
reduction in production and sales from Q0 to Q1
which consumers are better off with imposing a price ceiling?
those that manage to buy at the Pmax
their personal consumer surplus increased
how do you find consumer surplus with government imposed price ceiling?
Original surplus - consumer loss + additional surplus
Original triangle - triangle B + Rectangle A
what does price ceiling do do producers?
some producers (those with relatively lower costs) will stay in the market but will receive a lower price for their output,
other producers will leave the market
both groups will lose producer surplus
what is the surplus lost by producers in a price ceiling?
the surplus gained by consumers (rectangle A) + the drop in production (triangle C)
surplus change: - (A + C)
with an imposed price ceiling, is total surplus increased or decreased?
it is decreased
how do you call the loss to surlus?
deadweight loss
what causes the deadweight loss given by a imposed price ceiling?
an inefficiency caused by price controls
the loss in producer surplus exceeds the gain in consumer surplus
how do you find the deadweight loss given by a imposed price ceiling?
triangles B + C
economic efficiency
the maximization of aggregate consumer and producer surplus
market failure
Situation
in which an unregulated competitive market is inefficient because prices fail to provide proper signals to consumers and producers
does not maximize aggregate consumer and producer surplus
what are the 2 important instances in which market failures can occur
externalities
lack of information
externality
Action taken by either a producer or a consumer which affects other producers or consumers but is not accounted for by the market price
how can lack of information lead to market failure
cannot make utility-maximizing purchasing decisions
what constitutes the deadweight loss of an imposed price floor?
triangles B and C
with an imposed price floor, what happens with consumer surplus? why?
it is reduced by rectangle A and triangle B
consumer surplus loss: A + C
because those that buy the product now have to pay more (A) and some decided to vag the trade (B)
Consumers clearly are worse off as a result of this policy
with an imposed price floor, what happens with producer surplus? why?
their surplus is increased by rectangle A because they sell at a higher price
their surplus is also reduced by rectangle C because consumers don’t buy as many products
they also don’t produce what they could produce at that same imposed price (creating a trapezoid from the quantity supplied to the quantity that should be supplied under the supply curve)
this is also a surplus loss
overall, producers also face more surplus loss than gains
price supports
Price set by government above free-market level and maintained by governmental purchases of excess supply.
what is the effect ofnconsumer surplus with a price support? why?
surplus loss: rectangle A + triangle B
because consumers buy the same that what they would have bough with a price floor, so basically less
government buys the rest
what is the effect on producer surplus with a price support?
producers gain
Producers are now selling a larger quantity
producer surplus gain: rectangle A + triangle B + triangle D
how is the government affected by a price support?
they have to buy the surplus which is a cost to them
Q2 - Q1 * Ps which = rectangle
what is the deadweight loss of a price support?
rectangle of the cost government pays - triangle D
production quotas
reducing supply
how does a production quotas work?
quantity supplied is reduced
the price consumers pay at that quantity supplied is higher than the market clearing price
sp
what is the effect of a production quota on consumer surplus? why?
reduction by rectangle A and triangle B
consumers pay more for less quantity
not every consumer is now in the market
what is the effect of a production quota on producer surplus? why?
they gain rectangle A because consumers pay a higher price
they lose triangle C because they produce less than the equilibrium quantity
they receiving payments from government (B + C + D)
A - C + B + C + D
= A + B + D
what is the deadweight loss with production quotas
triangles B and C which is what consumers and producers lose
what is the effect of an incentive on producer surplus? why?
hey gain rectangle A because consumers pay a higher price
they lose triangle C because they produce less than the equilibrium quantity
they receiving payments from government (B + C + D)
A - C + B + C + D
= A + B + D
what is the cost to the government for the incentive?
the payment sufficient to give farmers an incentive to reduce output to Q1
how big must the government incentives be?
incentive must be at least as large as the additional profit that could be made
basically, at least B + C + D
do producers win more money with price support or incentive?
none, they win the same
do consumers lose more surplus with price support or incentive?
none, they lose the same
does a price support or incentive cost more tp the governement?
depends on wether B + C + D of an incentive is more or less than the (Q2 − Q1)Ps rectangle of price surpport
what is the deadweight loss created by the government incentive?
triangles B + C
import quota
limit on the quantity of a good that can be imported
tariff
Tax on an imported good
why do countries use import quotas and tarifs
to keep the domestic price of a product above world levels
enable the domestic industry to enjoy higher profits than it would under free trade
what is the impact of a import quota on consumer surplus if the quota is of 0 imports?
consumer surplus is reduced
trapezoid A + triangle B are part of the surplus loss because consumers now pay more since the price increased
triangle C also a loss because there are less consumers buying
total loss for consumers: A + B + C
what does an a import quota of 0 do to the price and quantity supplied and demanded
quantity demanded is reduced
quantity supplied is increased
these meet at the equilibrium
an equilibrium price higher than the world price is achieved
what is the impact of a import quota on producer surplus if the quota is of 0 imports?
producer surplus is the trapezoid A
Output is now higher (Q0 instead of Qs) and is sold at a higher price (P0 instead of Pw)
how much deadweight loss is created by an import quota of 0?
B + C
can a tariff make that imports are 0? if so, how?
yeee
The tariff would have to be equal to or greater than the difference between P0 and Pw
is there a difference between an import quota of 0 and a tariff big enough that imports are 0?
nah boy
there will be no imports and, therefore, no government revenue from tariff collections
the effect on consumers and producers would be the same as with a quota
what is the effect of a tariff that does not reduce imports to 0 on consumer surplus?
reduces consumer surplus by A + B + C + D
what is the effect of a tariff that does not reduce imports to 0 on producer surplus?
it increases by the trapezoid A
what is the revenue for the government from a tariff that does not reduce imports to 0 on producer surplus?
rectangle D
it is the amount of tariff * (new Qd + new Qs)
what is the deadweight loss from a tariff that does not reduce imports to 0 on producer surplus?
triangle B + triangle C
B is the loss from domestic overproduction
C is the loss from too little consumption
what is the deadweight loss from a quota that does not reduce imports to 0 on producer surplus?
triangle B + triangle C + rectangle D
B is the loss from domestic overproduction
C is the loss from too little consumption
rectangle D is the money the government does not collect, that instead goes as profits to foreign producers
what is the revenue for the government from a quota that does not reduce imports to 0 on producer surplus?
none bruv
on who falls the burden of a tax?
partly on the consumer and partly on the producer
specific tax
tax of a certain amount of money per unit sold
what are the 4 conditions so that a market clears after a specific tax is implemented?
- The quantity sold and the buyer’s price Pb must lie on the demand curve (because buyers are interested only in the price they must pay).
- The quantity sold and the seller’s price Ps must lie on the supply curve (because sellers are concerned only with the amount of money they receive net of the tax).
- The quantity demanded must equal the quantity supplied (Q1)
- The difference between the price the buyer pays and the price the seller
receives must equal the tax t
how does a specific tax affect consumer surplus?
consumer surplus is reduced by rectangle A because consumers pay more than the market equilibrium
it is reduced by triangle B because they consume less
how does a specific tax affect producer surplus?
surplus is reduced by rectangle D because producers are paid less than equilibrium
surplus is reduced by triangle C because there is less production
how does a specific tax affect the governement?
their revenues is the sum of rectangles A and D
what is the deadweight loss created by a specific tax?
triangles C + D
usually, how is the burden of the tax shared by consumers and producers?
almost evenly
how is the burden of the tax shared by consumers and producers in an inelastic demand?
mostly on consumers
how is the burden of the tax shared by consumers and producers in an elastic demand?
mostly on producers
Pass-through fraction
tells us what fraction of the tax is “passed through” to consumers in the form of higher prices
Pass-through fraction formula and meaning
Es / (Es - Ed)
when its 1, consumers are the ones taking L
when its 0, producers are the ones taking L
The fraction of the tax that producers bear formula?
− Ed / (Es − Ed)
subsidy
payment reducing the buyer’s price below the seller’s price;
i.e., a negative tax
how to find the amount of a subsidy?
the difference between the buyer’s price and producer’s price
if the supply and demand curve are both equally elastic, who benefits from subsidies?
buyers and producers benefit relatively the same
what are the 4 conditions for the subsidy to work?
QD = QD(Pb)
QS = QS(Ps)
QD = QS
Ps - Pb = s
