Price Ceilings and floors

Definition of price ceilings:

a max. price that is set by the gov. in order to help consumers. Less than equilibrium price. Usually used on necessity gooda or merit goods. No price to gov.

merit good:

things that are good for you but usually underprovided

Effects of price ceilings:

Parallel markets (black market), long lines/waits

Reasoning behind price ceilings:

Goods underprovided thus gov. wants to increase production. Or to increase parts of the economy.

What can price ceilings lead to:

Usually lead to a shortage in short term since demand is much higher than supply

What can a government do to fix a price-ceiling induced shortage?

Offer subsidies to firms to encourage production (depends on the good), direct provision (low provisions of the product), released stored goods on the mrket (only works for stored + non perishable goods)

Definition of price floors:

gov. will set a minimum price above the equilibrium price in order to benefit production

Reasoning behind price floors:

discourage demerit goods. raise income for producers and can be protection against supply shocks (especially for producers of commodoties). for workers the creation of a minimum wage to ensure a higher standard of living.

demerit goods:

goods that have high demand and are overprovided but are usually bad for the consumers wellbeing.

Effects of price floor:

Lead to problems with surplus. Reduced demand=less long term revenue. Surplus causes producers to get around the price floor. Inefficiency/waste of resources.

what are government solutions to surpluses:

buy surplus (if they can store it). Impose quota. Attempt to increase demand. "Dump" surplus by selling it on the international market for less than world price (Pw) : hurts domestic production for the country being dumped on.