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CONTROLS ON PRICES
Result in government-created price ceilings and
floors.
Interesting example in book:
Ice-eaters think ice-cream is too expensive
Ice-makers think ice-cream is too inexpensive
Both have conflicting interests
CONTROLS ON PRICES
Price Ceiling
A legal maximum on the price at which a good can
be sold (Ice cream-EATERS or Ice-cream-makers)
Price Floor
A legal minimum on the price at which a good can
be sold (Ice cream-eaters or Ice-cream MAKERS)
Supply
$4
Price
ceiling
Supply
Equilibrium
price
Qs
Qd
$3
Equilibrium
price
Qs = Qd
Price
ceiling
Shortage
-50
Demand
100
Quantity of
Ice-Cream
Cones
Equilibrium
quantity
Demand
0
75
125
Quantity
supplied
Quantity
demanded
Quantity of
Ice-Cream
Cones
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+50
Supply
Surplus
$4
Price
floor
$3
Supply
Equilibrium
price
Qs = Qd
$3
Qs
Qd
Equilibrium
price
$2
Price
floor
Demand
0
75
125
Quantity
demanded
Quantity
supplied
Quantity of
Ice-Cream
Cones
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Demand
0
100
Equilibrium
quantity
Quantity of
Ice-Cream
Cones
Copyright
2004 South-Western/Thomson
Copyright2003
Southwestern/ThomsonLearning
Learning
S2
2. . . . but when
supply falls . . .
Supply, S1
1. Initially,
the price
ceiling
is not
binding . . .
S1
P2
Price ceiling
Price ceiling
P1
4. . . .
resulting
in a
shortage.
Demand
0
3. . . . the price
ceiling becomes
binding . . .
P1
Q1
Quantity of
Gasoline
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Demand
0
QS
QD Q1
Quantity of
Gasoline
Copyright2003 Southwestern/Thomson Learning
Figure 3a Rent Control in the Short Run and in the Long Run
(a) Rent Control in the Short Run
(supply and demand are inelastic. Initially rent control has small
effect)
Rental
Price of
Supply
Apartment
Figure 3b Rent Control in the Short Run and in the Long Run
(b) Rent Control in the Long Run
(supply and demand are elastic. The curve changes because sellers and
buyers have time to respond, making the curves more elastic)
Supply
Rental
Price of
Apartment
Controlled rent (price ceiling: max price)
Controlled rent
Shortage
Demand
Shortage
Demand
0
Quantity of
Apartments
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Quantity of
Apartments
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Rent Control
Labor Market
Labor Market
Wage
Wage
Labor
Supply
Labor surplus
(unemployment)
Labor
Supply (Looking for jobs)
Minimum
wage
Equilibrium
wage
Labor
demand
0
Equilibrium
employment
Labor
Demand (Employers)
Quantity of
Labor
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Quantity
demanded
Quantity
supplied
Quantity of
Labor
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Minimum Wage
Labor supply: Individuals looking for work.
Labor demand: Firms determine the demand.
As a result, more workers than jobs available
creating a shortage of jobs (unemployment).
One last point: This shortage would be for
unskilled labor, not for executives or high
management positions. Why?
Supply, S1
Tax ($0.50)
A tax on buyers
shifts the demand
curve downward
by the size of
the tax ($0.50).
Equilibrium
with tax
D1
D2
0
90
100
Quantity of
Ice-Cream Cones
Copyright2003 Southwestern/Thomson Learning
S2
Equilibrium
with tax
S1
Tax ($0.50)
A tax on sellers
shifts the supply
curve upward
by the amount of
the tax ($0.50).
Price
sellers
receive
Demand, D1
$0.30 CS lost & 0.20 PS lost
90
100
Quantity of
Ice-Cream Cones
Copyright2003 Southwestern/Thomson Learning
Clarification
Supply
Price
A = $5
Consumer
surplus
Qs = Qd
Equil.
Price = $4
Producer
surplus
No. Why? Both share the tax burden. If the buyer had to
pay the tax, the consumer would reduce # of ice-cream cones
as if the price was lower than the equilibrium price.
What is the tax generated? Show in graph.
Demand
B= $3
Equilibrium
quantity
Quantity
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Supply
Consumer pays
Tax wedge
Without tax
Firm receives
Demand
0
Quantity
of Good
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Price
1. When supply is more elastic
than demand . . .
Price buyers pay
Supply
CS lost
Tax
PS lost
Price sellers
receive
3. . . . than
on producers.
0
2. . . . the
incidence of the
tax falls more
heavily on
consumers . . .
Demand
Quantity
Supply
CS lost .
3. . . . than on
consumers.
PS lost
Price sellers
receive
Tax
2. . . . the
incidence of
the tax falls
more heavily
on producers . . .
Demand
Quantity
(Last revision: Tuesday, Jan. 10th, 2012)
Copyright2003 Southwestern/Thomson Learning