Chapter 5 Flashcards
What is price ceiling?
Maximum legal price.
The cap on a price the government sets so the price cannot go up to equilibrium.
Maximum price a seller is allowed to charge.
What is price floor?
Minimum legal price.
The minimum price that buyers are expected to pay for a product.
Does a floor lead to a surplus or shortage?
Surplus. When the price of something is set above equilibrium, the quantity supplied goes up as producers want to produce more for more money. But, the quantity demanded decreases as it’s more expensive so there is not enough people buying the product leading to a surplus.
Does a ceiling lead to a surplus or shortage?
Shortage. E.g. if price of gas goes below equilibrium, the quantity demanded will increase but the quantity supplied will decrease because suppliers don’t want to produce more for little price.
Ceiling goes ______ equlibrium
below
Floor goes ______ equilibrium
above
Mnemonics to help understand when floors and ceilings effect markets.
FlooR - R = roof (above equilibrium, surplus)
CeilinG - G = ground (below equilibrium, shortage)
Concept of binding and non-binding price ceilings
If the price ceiling is below equilibrium then it is binding which means it has an effect on the market.
If the price ceiling is above equilibrium then it is non binding which has no effect on the market.
Concept of binding and non-binding price floors
If the price floor is below equilibrium then it is non binding which means it has no effect on the market, i.e. no surplus.
If the price floor is above equilibrium then it is binding which means it has an effect on the market.
What is a black market?
Any market in which transactions (which are themselves legal) take place at prices that violate a legal price control.
legal goods are sold at illegal prices.
sold outside the limits given by the price floor or price ceiling.
What usually gives rise to black markets? Why?
Binding price ceilings.
Because a profit can be made by buying at the controlled price and selling at the (illegal) black-market price.
Why do binding price ceilings have excess demand and free markets don’t?
Because in binding price ceilings, the price is set below the equilibrium price which means quantity demanded exceeds quantity supplied and excess demand or shortages will result.
In a free market, the prices are flexible. Eg. prices are allowed to rise which prevents excess demand.
How do we allocate products in excess demand?
- If stores sell their available supplies on a first-come, first-served basis
- sellers’ preferences: allocation of products in excess demand by decisions of the sellers
- governments create ration coupons to buy the product
Why do governments impose price ceilings?
- to restrict production (perhaps to release resources for other uses such as wartime military production
- to keep specific prices down
- to satisfy notions of equity in the consumption of a product that is temporarily in short supply (such as building supplies immediately following a natural disaster)
Rent controls are a form of what?
Rent controls are a form of price ceiling.
