GI- Maximum Prices/Price Ceiling Flashcards
What is a maximum price
Something the government or an industry might set to prevent the market price from rising above a certain level
What is one aim of putting in place a price ceiling
To prevent monopolistic exploitation of consumers
To be effective a maximum price has to be set below..
The free market price
Example of a price ceiling
When shortage of foodstuffs threatens large rises in the free market price
When does price capping also occur
When competition authorities judge that consumers are being exploited by businesses using their monopoly power. E.g. EU has added price caps for roaming charges
A maximum price also involves..
A normative judgement on behalf of the government about what that price should be
A price ceiling set above the free market equilibrium price would have…
No effect whatsoever in the market- bc for a price flood to be effective, it must be set below the normal market clearing price
Examples of maximum prices/price capping
- housing rent controls
- cap on water companies
What is a black market
An illegal market in which the market price is higher than a legally imposed price ceiling - they develop where there is excess demand
Rationing when there is a maximum price
Might also be achieved by allocating the good on a first come first served basis
Problem arising from the maintenance of a maximum price
In the LR- suppliers might respond to a maximum price by reducing their supply- the supply curve becomes more elastic in the long term
Benefits of price capping
- useful surrogate for competition
- holds prices down- consumer welfare gains
- incentives for businesses to cut costs to maintain profits
Downsides of price capping
- reduces profits- less money for capital investment
- may dissuade new entrants
- firms might rise prices in other ways
Alternatives to price capping
- measures to reduce entry barriers in an industry
- higher taxes on monopoly profits e.g. A windfall tax
