Chapter 5: Price Controls and Quotas

Question 1

KEY TERM:
Price controls

Answer 1

legal restrictions on how high or low a market price may go.

Question 2

KEY TERM:
Price ceiling

Answer 2

a maximum price that sellers are allowed to charge for a good or service, a form of price control.

Question 3

KEY TERM:
Price floor

Answer 3

a minimum price that buyers are required to pay for a good or service, a form of price control.

Question 4

KEY TERM:
Deadweight loss

Answer 4

the loss in total surplus that occurs whenever an action or a policy reduces the quantity transacted below the efficient market equilibrium quantity. A loss in surplus that accrues to noone as a gain.

Question 5

KEY TERM:
Inefficient allocation to consumers

Answer 5

a form of inefficiency in which some people who want the good badly and are willing to pay a high price don’t get it, and some who care relatively little about the good and are only willing to pay a low price do get it; often a result of a price ceiling (missed opportunity as re-arrange consumers can make people better off).

Question 6

KEY TERM:
Wasted resources

Answer 6

a form of inefficiency in which people/government expend money, effort, and time to cope with the shortages/surpluses caused by a price control (opportunity cost and missed opportunities constitutes wasted resources).

Question 7

KEY TERM:
Inefficiently low quality

Answer 7

a form of inefficiency in which sellers offer low-quality goods at a low price even though buyers would prefer a higher quality at a higher price; often a result of a price ceiling.

Question 8

KEY TERM:
Black markets

Answer 8

a market in which goods or services are bought and sold illegally, either because it is illegal to sell them at all or because the prices charged are legally prohibited by a price control.

Question 9

KEY TERM:
Minimum wage

Answer 9

a legal price floor on the wage rate.

Question 10

KEY TERM:
Inefficient allocation of sales among sellers

Answer 10

a form of inefficiency in which sellers who would be willing to sell a good at the lowest price are unable to make sales while sales go to sellers who are only willing to sell at a higher price; often the result of a price floor.

Question 11

KEY TERM:
Inefficiently high quality

Answer 11

a form of inefficiency in which sellers offer high-quality goods at a high price even though buyers would prefer a lower quality at a lower price; often the result of a price floor.

Question 12

KEY TERM:
Quota

Answer 12

an upper limit, set by the government, on the quantity of some good that can be bought or sold; also referred to as a quantity control.

Question 13

KEY TERM:
Quota limit

Answer 13

the total amount of a good under a quota or quantity control that can be legally transacted.

Question 14

KEY TERM:
Licenses

Answer 14

the right to supply a good (conferred by the government or an owner).

Question 15

KEY TERM:
Demand price

Answer 15

the price of a given quantity at which consumers will demand that quantity.

Question 16

KEY TERM:
Supply price

Answer 16

the price of a given quantity at which producers will supply that quantity.

Question 17

KEY TERM:
Wedge

Answer 17

the difference between the demand price and the supply price of the quantity transacted when the supply of the good is legally restricted. Often created by a quota. The price paid by buyers ends up being higher than that received by sellers.
 

Question 18

KEY TERM:
Quota rent

Answer 18

the difference between the demand price and the supply price at the quota limit; this difference, the earnings that accrue to the license-holder, is equal to the market price of the license when the licenses are traded.

Question 19

Why do governments intervene with price/quantity controls?

Answer 19

The equilibrium price does not please either buyers or sellers.

Question 20

4 types of inefficiency with price ceilings

Answer 20

Inefficiently low quantity supplied - equilibrium results in the maximisation of surplus.
Inefficient allocation to consumers
Wasted resources
Inefficiently low quality

Question 21

Other than inefficiencies, what do price controls cause?

Answer 21

Black markets - encourages disrespect for the law in general. Illegal activity worsens the position of those who are honest. Yet black markets can diminish some of the inefficiency of rent control.

Question 22

Common negative traits of price controls?

Answer 22

A persistent ceiling/surplus
4 types of inefficiencies
Black markets

Question 23

Why do price ceilings exist?

Answer 23

Price ceiling benefit some.
Consumers are uncertain of what happens in a price ceiling is abolished.
Government officials do not conduct proper supply/demand analysis.

Question 24

Do price ceilings make consumers better off?

Answer 24

It is unclear whether consumers collectively are made better off without direct calculation. Consumers enjoy a direct transfer of surplus from producers to them with the lowered prices but the greater the deadweight loss, the more likely consumers collectively lose.

Question 25

What happens to unwanted surplus in a price floor?

Answer 25

It depends on government policy. If government does not buy up the surplus, potential sellers cannot match buyers.

Question 26

4 types of inefficiency with price floors

Answer 26

Inefficiently low quantity demanded - leads to deadweight loss.
Inefficient allocation of sales among sellers
Wasted resources - especially government purchases of unwanted surpluses.
Inefficiently high quality - this represents a missed opportunity.

Question 27

Why do price floors exist?

Answer 27

Benefit some influential sellers
Government officials are uninformed
Protectionist policies (?)

Question 28

Usefulness of PED

Answer 28

Enables governments to assess impacts of taxation.
Enables firms to asses impact of price change.
Unit-free and can be used for comparisons.

Question 29

What happens with a binding quota?

Answer 29

The demand price is greater than the supply price. The wedge between these two prices is the quota rent, a result of the restrictions placed by the quantity limit. Since the quantity transacted has reduced (as with price controls), there is deadweight loss.

Question 30

How are quota limits enforced?

Answer 30

Typically, the government limits quantity in a market by issuing licenses; only people with a license can legally supply the good.

Question 31

What is the market created by a quota?

Answer 31

A market for licenses. There are now two transactions: one for the good and the other for licenses.

Question 32

2 inefficiencies of quotas?

Answer 32

Deadweight loss - some mutually beneficial transactions don’t occur (missed opportunities). If the demand price of a given quantity exceeds the supply price, there is a deadweight loss.
Incentives for illegal activities to circumvent quotas.