Government controls

Question 1

Why might governments interfere in a market with price controls?

Answer 1

The prices are undesireable at their market price.

Question 2

What are two types of tax imposed on firms? Draw the new supply curve for both types of tax.

Answer 2

1. Ad valorem (pink) - a percentage of the sale price
2. Specific (blue) - a set amount per unit sold.

Question 3

3 strategies

How might governments control prices?

Answer 3

1. Price floor
2. Price ceiling
3. Taxes

Question 4

A) Draw a graph depicting a market with a price ceiling.
B) Why might a price ceiling be put in place?
C) What is the consequence of a price ceiling?

Answer 4

B) To prevent the market price being too high for individuals with low incomes.
C) There will be a resulting shortage of goods.

Question 5

B) Four reasons

A) Draw a graph depicting a market with a price floor.
B) Why might a price floor be put in place?
C) What is the consequence of a price floor?

Answer 5

B) To protect suppliers incomes; to create a surplus for later consumption; to deter consumption; as a minimum wage
C) There will be a resulting surplus of goods that the government will need to purchase and store

Question 6

Demonstrate graphically that the incidence of tax falls on both the consumer and producer.

Answer 6

When a tax is introduced, the equilibrium shifts to a lower quantity and a higher price. The increase in price is not equal to the tax however, because demand also decreases with a price rise. Therefore, the consumer share of the tax is the extend to which the price rises (green), and the producer’s share is the how much of the tax is not covered by the change in price (pink).

Question 7

What is deadweight welfare loss? Show this on a graph after a tax has been introduced.

Answer 7

The overall welfare that is lost after imposing a price control, tax or subsidy.

Question 8

Show, graphically, the deadweight welfare loss after introduction of a price floor.

Answer 8

Question 9

Show, graphically, the deadweight welfare loss after introduction of a price ceiling.

Answer 9

Question 10

Further reading question: Name and describe the study that applied to price ceilings.

Answer 10

• Diamond et al, 2019.
• A quasi-experiment into rental controls in San Francisco from 1994-2015
• In the short term, the rent controls meant that individuals would not be displaced from their neighbourhood despite rising market prices for rent
• In the long run, landlords would shift their investment to properties that were not under rent-control legislation.
• Therefore, the supply of rent-controlled housing decreased and the price of non-rental housing increased.
• Ultimately, the rent controls enabled the gentrification of San Francisco that the rental controls were aiming to prevent

Question 11

Further reading question: What is government cheese and how does it apply to government price controls?

Answer 11

• Outlined in an NPR podcast from Malone and Duffin (2018).
• In 1976, President Jimmy Carter promised dairy farmers that he would raise the price of milk.
• As a result of the price floor put in place, the US government had to purchase surplus milk which they converted to cheese.
• The government then had to buy and store the ‘government cheese’, and eventually had to give it away to welfare beneficiaries
• Similar effects were seen in Europe after the Common Agricultural Policy meant the EU would purchase surplus produce to stabilise the market price