chapter 3 part 2 from class: government market controls

Question 1

how do you calculate the gain to consumers when the government implements a price ceiling?

Answer 1

1. find the rectangle created by the reduced quantity supplied (Q1), the price equilibrium (P0), and the Pmax (the price ceiling)

calculate its area (rectangle A)

2. find the triangle created just below the demand curve and above the price equilibrium (P0), by the reduced quantity supplied (Q1), and the equilibrium quantity (Q0)

calculate its area (triangle B)

The gain to consumers is the difference between the area of said rectangle and triangle

Question 2

how do you calculate the loss to producers when the government implements a price ceiling?

Answer 2

1. find the rectangle created by the reduced quantity supplied (Q1), the price equilibrium (P0), and the Pmax (the price ceiling)

calculate its area (rectangle A)

2. find the triangle created just above the supply curve and below the price equilibrium (P0), by the reduced quantity supplied (Q1), and the equilibrium quantity (Q0)

calculate its area (triangle C)

The loss to producers is the sum of said rectangle and triangle

Question 3

how do you calculate the deadweight loss created by a price ceiling?

Answer 3

1. find the triangle created just below the demand curve and above the price equilibrium (P0), by the reduced quantity supplied (Q1), and the equilibrium quantity (Q0)

calculate its area (triangle B)

2. find the triangle created just below the demand curve and above the price equilibrium (P0), by the reduced quantity supplied (Q1), and the equilibrium quantity (Q0)

calculate its area (triangle C)

the two triangles are the deadweight loss

Question 4

what is deadweight loss?

Answer 4

loss of total (consumer plus producer) surplus

Question 5

price ceiling with inelastic demand

Answer 5

triangle B can be larger than rectangle A

consumers suffer a net loss from price controls

Question 6

economic efficiency

Answer 6

maximization of total benefit to the society

maximization of consumer and producer surplus, and government revenue

Question 7

market failure

Answer 7

situation in which an unregulated competitive market is inefficient

prices fail to provide proper signals to consumers and producers

Question 8

what can cause market failures?

Answer 8

Externalities

Lack of Information

Question 9

externality:

Answer 9

action taken by either a producer or a consumer which affects other producers or consumers

not accounted for by the market price

Question 10

how can lack of information create market failures

Answer 10

consumers cannot make utility-maximizing purchasing decisions

in this case, government intervention (e.g., requiring “truth in labeling”) may then be desirable

Question 11

how to calculate deadweight loss with price floor?

Answer 11

sum of triangles B and C

Question 12

what are the dangers of a price floor and suppliers supplying the amount that they should with the new price?

basically overproduction because the consumers will definitely not buy that amount

Answer 12

there will clearly be a quantity surplus

but total surplus will now be completely negative

suppliers will take an absolute L

Question 13

price support

Answer 13

price set by government above free-market level

maintained by governmental purchases of excess supply

creates a new equilibrium

Question 14

what is the danger of price support for consumers?

Answer 14

Some consumers pay a higher price, while others no longer buy the good

consumer surplus = - A - B

Question 15

what is the W of price support for suppliers?

Answer 15

Producers are now selling a larger quantity Q2 instead of Q0, and at a higher price Ps

producer surplus: A + B + D

Question 16

what is the L of price support for government?

Answer 16

The cost to the government (which is ultimately a cost to consumers) is D

it is (Q2 - Q1)Ps

Question 17

what is the total change in welfare due to price support?

Answer 17

𝜟𝑪𝑺 + 𝜟𝑷𝑺 − 𝑪𝒐𝒔𝒕 𝒕𝒐 𝑮𝒐𝒗𝒕. = 𝑫−(𝑸𝟐−𝑸𝟏)𝑷𝒔

Question 18

production quotas

Answer 18

supply restrictions

Question 19

what is the deadweight loss with or without incentives of a production quota?

Answer 19

DWL = - B - C

Question 20

in a production quota, what must happen so that incentives work?

Answer 20

it must be at least as large as B + C + D

Question 21

what is the cost of a production quota to the government?

Answer 21

B + C + D

Question 22

what is the change in consumer surplus due to production quotas?

Answer 22

• A - B

Question 23

what would need to happen to avoid the deadweight loss to a production quota?

Answer 23

government should give suppliers the amount of A + B + C

output should not be controlled

and everyone wins

Question 24

import quota

Answer 24

limit on the quantity of a good that can be imported

Question 25

tariff

Answer 25

tax on an imported good

Question 26

in a free market, is the domestic price the same as the work equilibrium price?

Answer 26

ye bruuuv

Question 27

in a free market, is the demand of a certain small economy for a product the same as the world demand? what about the supply curve? what does the quota do then?

Answer 27

demand curve it is not the same

supply curve it is not the same

Question 28

knowing that supply and demand curves in a small economy are not the same as in the world, what happens when imports are eliminated

Answer 28

it makes the small economy market reach an equilibrium, hence why the price increases

gains for producers is trapeze A

loss to consumers is A + B + C

deadweight loss is B + C

Question 29

when is an economy considered small? so what if we impose Tarif?

Answer 29

small when it does not have any effect on world price

will not have effect on world price

Question 30

what is the deadweight loss to society

Answer 30

import tarifs

triangles b + d

Question 31

how do you find the Tarif imposed when looking at a graph

Answer 31

you look at the difference between new increased price and previous price (world price)

Question 32

how are the gains for producers found with import tariff?

Answer 32

with the trapeze A

basically by how much the producer surplus increased

Question 33

how are the losses for consumers found with import tariff?

Answer 33

trapeze A + two triangles of deadweight loss of B and C + the rectangle D in between the two triangles

basically, by how much the consumer surplus decreased

Question 34

if a tariff is used, what does the rectangle D between the deadweight loss triangles represent?

Answer 34

the government gains

Question 35

if a quota is used, what does the rectangle D between the deadweight loss triangles represent?

Answer 35

becomes part of the profits of foreign producers

it means deadweight loss now D + C + B

Question 36

what is the effect of tax?

Answer 36

consumers pay more for a reduced quantity supplied

producers can’t supply as much

Question 37

how do you calculate the revenue from tax?

Answer 37

the area of the rectangle created by the Quantity supplied and the size of the tax

Question 38

how do you calculate the size of a tax imposed?

Answer 38

price consumers pay - price suppliers receive

Question 39

by how much is the total surplus reduced when imposing tax?

Answer 39

surplus is reduced by triangles C and E

C + E is deadweight loss

basically, by the triangles in between the rectangle representing tax revenue and the normal equilibrium

Question 40

specific tax

Answer 40

tax of a certain amount of money per unit sold

Question 41

how much consumer surplus do consumers lose with tax?

Answer 41

the top part of the government revenue rectangle as well as the top deadweight triangle right next

Question 42

how much producer surplus do producers lose with tax?

Answer 42

the bottom part of the government revenue rectangle as well as the bottom deadweight triangle right next

Question 43

If demand is very inelastic relative to supply, on who does the burden of specific tax fall on the most?

Answer 43

the burden of the tax falls mostly on buyers

Question 44

If demand is very elastic relative to supply, on who does the burden of specific tax fall on the most?

Answer 44

it falls mostly on sellers

Question 45

what is the pass through formula? what do we use it for

Answer 45

we can calculate the percentage of the tax that is “passed through” to consumers

Es / (Es - Ed)

Question 46

subsidy

Answer 46

payment reducing the buyer’s price below the seller’s price

can be thought of as a negative tax

Question 47

how is the benefit of a subsidy split?

Answer 47

split between buyers and sellers

depends on the elasticities of supply and demand

Question 48

what are the conditions needed for a subsidy to work?

Answer 48

QD = QD * (Pb)

QS = QS * (Ps)

QD = QS

Ps - Pb = S

S = subsidy

Question 49

how does a subsidy affect the suppliers, consumers, and government

Answer 49

supplier surplus and consumer surplus increase

the government costs are the increases in surplus and the random triangle to the right