Price Controls Flashcards
What are price controls
when the government sets a maximum price (price ceiling) or a minimum price (price floor) and once this is imposed, does not allow a new equilibrium to be established and instead forces a situation where there is persisting market disequilibrium
What do price controls result in
market disequilibrium, where there is allocative inefficiency as either MB > MC or MC > MB. Therefore there are either shortages and surpluses. There is also welfare loss as social surplus is not maximised as consumer or producer surplus is greater
What is a price ceiling
when the government sets a legal maximum price that cannot be exceeded
Why are price ceilings set
in order to make certain goods more affordable to people, particularly those with low incomes
where is a price ceiling located on a curve
below the market equilibrium price
What are the consequences for markets (price ceiling)
Acronym = SUUNN
shortages
underground/parallel markets
under allocation of resources/allocative inefficiency
non-price rationing
negative welfare impacts
Describe why a shortage is created and impacts
- the price ceiling is set below the market equilibrium price, therefore a shortage is created
- the decrease in price has led to a large increase in the quantity demanded, however, this exceeds the quantity supplied.
- therefore, not all buyers who are willing and able to pay can do so, because there is not enough being supplied
Describe non-price rationing and impacts
- price rationing cannot occur because the price mechanism is no longer at play and therefore, some demanders willing and able to pay will go unsatisfied
- therefore the quantity supplied must be rationed out through non-rationing methods such as waiting in line, coupons, favouritism
Describe underground (parallel) markets and impacts
- underground markets involve buying and selling transactions that are unrecorded and usually illegal
- it involves buying the good at the legal price and selling it at a higher price
- for high-income earners who are dissatisfied and unable to get the good and willing and able to pay a price above the ceiling
Describe under allocation of resources and how it leads to allocative inefficiency
there is a smaller quantity being supplied and therefore a shortage with insufficient resources being allocated to producing this good. Therefore society is worse off due to an under allocation of resources
MB > MC = allocative inefficiency
- society is not getting enough of the good
Describe welfare loss and impacts
welfare loss = social surplus that is lost to society because resources are not allocated efficiently
there is welfare loss because the social surplus is not maximised and consumer surplus is greater than producer surplus
consequences for consumers
low-income earners - good for those consumers who were unable to buy the good at a higher price, as it is now affordable
high-income earners - those who were willing and able to buy the good at the original market price are now dissatisfied because there is a shortage (encourages black-market sales)
consequences for producers
fall in total revenue as they sell a smaller quantity of the good at a lower price
*they are unable to supply more because if they supply more at this low price, the margins cost is too high and they are not able to cover the extra cost of producing more
consequences for employees
unemployment will increase, as less output is being produced and people will lose their jobs.
consequences for governments
- no gain or loss in the government budget
- government may gain political popularity
-could have consequences on government and economy due to unemployment
what is a price floor
when the government sets a legal minimum price that cannot be lowered
why are price floors set
raise the price of a good or service to a level that is deemed more fair or sustainable. Also to provide income support to farmers or to increase the wage of low-skilled workers.
*product + resource market
where are price floors located on the curve
above the equilibrium price
What are the consequences for markets (price floors)
acronym = FSONG
surpluses
overallocation of resources
negative welfare impacts
government measures to dispose of surpluses
firm inefficiency
Describe why a surplus is created and impacts
- the price floor is set above the equilibrium price creating a surplus (excess supply)
- the increase in price has led to a large decrease in quantity demanded, however, quantity supplied is high
what does the government do with this excess supply
a common practise is for the government to buy the excess supply which shifts the demand curve but still maintains the price floor
what happens if the government doesn’t buy the excess supply
the price would fall back to its equilibrium as they would have to lower the price in order to sell the excess output
describe government measures to dispose of surpluses
- store it - additional costs for storage
- export - may have to provide a subsidy to lower price as other countries will not buy it
describe firm inefficiency
inefficient production as they are using more resources than necessary
describe overallocation of resources
larger quantity than demanded being supplied and therefore a surplus with too many resources being supplied.
MC > MB = allocative inefficiency
- society is getting a larger than “optimum” quantity produced
describe negative welfare impacts
creates a welfare loss, indicating that the price floor introduces allocative inefficiency due to an overallocation of resources
consequences for consumers
consumers are now worse off as they pay a higher price and they buy a smaller quantity because quantity demanded is low
consequences for producers
producers gain revenue as they are receiving a higher price and producing a larger quantity as the government buys the surplus
consequences for workers
workers are more likely to gain employment as there is a greater production of the good
consequences for government
when the government purchases the excess supply, this is a burden on its budget which could be spent on other activities (money from taxpayers)
extra money spent to store or export by providing a subsidy
consequences for stakeholders in other countries
global misallocation in the agricultural sector can lead to a waste of resources if there is a price floor
