4 - Market Interventions

Price controls - Price ceilings/floors

PRICE CIELINGS:

• A max price that can be legally charged for a good or service

PRICE FLOORS:

• a minimum price that can be legally charged

Price Floors to P*

If Pf is BELOW P* - P* < Pf

• the Pf will not affect the resulting market price - since the P* is legal

• The Pf is NON-BINDING

If Pf is ABOVE P* - P* > Pf

• the P* will be forced up to the Pf

• Pf is BINDING

Economic consequences of Price Floors

NON-BINDING price floors have no economic impacts

BINDING PRICE FLOORS:

• raises P*

• Creates excess supply

• Lowers market quantity available

Impacts on Sellers - overall ambiguous impacts

• high prices (good)

• Lower quantity sold (bad)

Impact on Buyers - overall Bad

• forced to pay a higher price and faced with lower quantity available

Price Ceilings to P*

Pc ABOVE P* - P* < Pc

• Pc does not affect P*

• Non-binding

Pc BELOW P* - P* > Pc

• sellers forced to lower prices to Pc

• Binding

Economic Consequences of Price Ceilings

Non-binding Pc have no economic impact

BINDING Pc

• P* falls to Pc

• Creates supply shortages (excess demand)

• Lowers market quantity available

Impacts on Buyers - ambiguous

• those lucky enough to buy a good enjoy the lower prices Market

• Many buyers are left without the good

Impacts of Landlors - overall bad

• forced to sell lower quantities for lower returns

Subsidy (sales)

A payment from the government to either suppliers or consumers to encourage consumption and/or production

2 types of Subsidies:

Ad-Valorem Subsidy - subsidies calculated as a percentage of price

Unit Subsidy - a fixed subsidy payment for each unit transacted

Buyers Price, Sellers Price, Market Price

Buyer Price (PB) - Price that buyers pay out of pocket for a good or service

Sellers Price (PS) - Price that sellers receive (after tax)

Market Price (PM) - Sticker Price