Chapter 6 | Government Policy Choices

Question 1

Do Prices or Quantities Adjust? Unintended Consequences of Government Policies

Answer 1

When government fixes prices, the smart choices of consumers and businesses are not coordinated. Quantities adjust to whichever is less — quantity supplied or quantity demanded.

Question 2

When price is fixed below market-clearing:

Answer 2

– shortages develop (quantity demanded greater than quantity supplied) and consumers are frustrated.
– quantity sold = quantity supplied only.

Question 3

When price is fixed above market-clearing:

Answer 3

– surpluses develop (quantity supplied greater than quantity demanded) and businesses are frustrated.
– quantity sold = quantity demanded only.

Question 4

Governments can fix prices, but can’t force businesses (or consumers) to produce (or buy) at the fixed price.

Answer 4

– Businesses can reduce output or move resources elsewhere.
– Consumers can reduce purchases or buy something else (there are always substitutes).

Question 5

Do Rent Controls Help the Homeless? Price Ceilings

Answer 5

Rent controls fix rents below market-clearing levels, and quantity adjustment takes the unintended form of apartment shortages.

Question 6

Rent controls

Answer 6

example of price ceiling — maximum price set by government, making it illegal to charge higher price.

Rent controls sometimes justified by Robin Hood principle — take from the rich (landlords) and give to the poor (tenants).

Question 7

Rent controls have unintended and undesirable consequences:

Answer 7

– create housing shortages, giving landlords the upper hand over tenants.
– subsidize well-off tenants willing and able to pay market-clearing rents.
– inefficiency, reducing total surplus below market-clearing amounts.

Question 8

Alternative policies to help the homeless that do not sacrifice market flexibility are

Answer 8

– government subsidies to help those who are poor pay rent.
– government-supplied housing.

Question 9

All policies have opportunity costs.

Answer 9

All policies have opportunity costs.

Question 10

Do Minimum Wages Help the Working Poor? Price Floors

Answer 10

Minimum wage laws fix wages above market-clearing levels, and quantity adjustment takes the unintended form of unemployment.

Question 11

Minimum wage laws:

Answer 11

example of price floor — minimum price set by government, making it illegal to pay a lower price.

Question 12

Living wage

Answer 12

estimated at $20 per hour, enough to allow an individual in a Canadian city to live above the poverty line.

Question 13

Minimum wage laws create unintended consequences.

Answer 13

– When governments set minimum wages above the market-clearing wage, the quantity of labour supplied by households will be greater than the quantity of labour demanded by businesses, creating unemployment.
– Inefficiency, reducing total surplus.

Question 14

Quantity of unemployment created by raising minimum wage depends on elasticity of business demand for unskilled labour.

Answer 14

– When demand for unskilled labour is inelastic and businesses have few substitutes, rise in minimum wage produces small response in decreased quantity demanded.
– When demand for unskilled labour is elastic and businesses can easily substitute machines for people, rise in minimum wage produces large response in decreased quantity demanded.
– Minimum wages help the working poor if gains from workers who remain employed and whose incomes go up are greater than losses of incomes of workers who lose their jobs.

Question 15

Alternative policies to help the working poor that do not sacrifice market flexibility are:

Answer 15

– training programs to help unskilled workers get higher-paying jobs.
– wage supplements.

Question 16

All policies have opportunity costs.

Answer 16

All policies have opportunity costs.

Question 17

When Markets Work Well, Are They Fair? Trade-Offs between Efficiency and Equity

Answer 17

Well-functioning markets are efficient, but not always equitable. Government may smartly choose policies that create more equitable outcomes, even though the trade-off is less efficiency.

Question 18

To say that well-functioning markets produce the products and services we value most means outputs go to those most willing and able to pay.

Answer 18

– Efficient market outcomes may not be fair or equitable.
– Efficient market outcome — coordinates smart choices of businesses and consumers so outputs are produced at lowest cost (prices just cover all opportunity costs of production), and consumers buy products and services providing the most bang per buck (marginal benefit greater than price).

Question 19

Consumers who do not buy at equilibrium, market-clearing prices are:

Answer 19

– unwilling because marginal benefit is less than price (even though could afford to buy), and/or
– unable to afford to buy, even though they are willing (marginal benefit is greater than price).

Question 20

Allowing markets to operate without government interaction is a choice with an opportunity cost — unfairness or inequality. There is a trade-off between efficiency and equity. In comparing U.S. market-driven health care with Canadian universal, government-run health care:

Answer 20

– Canadian-style government outcome is more equitable, but at the cost of being less efficient.
– U.S.-style private market outcome may be efficient, but at the cost of being less equitable.
– Health-care waiting lists are a quantity adjustment when prices . . . are fixed too low.

Question 21

Choosing between Efficiency and Equity: What Economics can and Cannot Do for You

Answer 21

Once you choose to support a political position or social goal based on your values, positive economic thinking helps identify the smartest choices to efficiently achieve that goal.

Question 22

Positive (or empirical) statements

Answer 22

about what is.
– Can be evaluated as true or false by checking the facts.

Question 23

Normative statements

Answer 23

about what you believe should be; involve value judgments.

– Cannot be evaluated as true or false by checking the facts.

Question 24

wo definitions of equity:

Answer 24

– Equal outcomes — at the end, everyone getsthe same amount.
– Equal opportunities — at the start, everyone hasthe same opportunities, but the outcomes canbe different.

Question 25

For any policy choice, always weigh benefits against opportunity costs.

Answer 25

For any policy choice, always weigh benefits against opportunity costs.