Chapter 4 (price controls and quotas: meddling with markets)

consumers willingness to pay

the maximum price at which they would buy that good

individual consumer surplus

the net gain to an individual buyer from the purchase of a good: equal to the difference between the buyers willingness to pay and the price paid.

Total consumer surplus

the sum of all individual consumer surpluses of all the buyers of a good in a market: equal to the area below the demand curve but above price.

sellers cost

lowest price at which they are willing to sell a good.

Individual producer surplus

the net gain to an individual seller from selling a good, equal to the difference between the price received and the sellers cost.

Total producer surplus

the sum of the individual producer surpluses of all sellers of a good in a market: area above the suplly curve but below the price.

Total surplus

the total net gain to consumers and producers from trading in the market.

Price controls

legal restrictions on how high or low a market price may go.

1) price ceiling

2)price floor

price ceiling

a maximum price sellers are allowed to charge for a good or service.

ex: rent control

price floor

minimum price buyers are required to pay for a good or service.

How do price ceilings cause inefficency?

1. It reduces the quantity of a good below the efficient level.

2. Typically leads to inefficient allocation of goods among would-be consumers.

3. Leads to wasted time and effort as people search for goods.

4. Leads to producers maintaining inefficiently low quality or condition.

deadweight loss

is the loss in total surplus that occurs whenever an action or policy reduces the quantity transacted below the efficient market equilibrium quantity. (loss to society)

inefficient allocation to consumers

some people who want the good badly and are willing to pay a high price dont get the good, and some who care relatively little about the good and are only willing to pay a little get it

Wasted resources

people expend money, effort, and time to cope with the shortages caused by the price ceiling.

Inefficiently low quality

sellers offer low-quality goods at a low price even though buyers would prefer higher quality at a higher price.

black markets

market which goods or services are bought and sold illegally — either because it is illegal to sell them at all or because the prices charged are legally prohibited by a price ceiling.

What price ceilings cause

1. a persistent shortage of a good

2. Inefficiency arising from this persistent shortage in the form of deadweight loss, inefficient allocation of goods to consumers, resources wasted, inefficiently low quality of a good offered for sale.

3. The emergence of illegal black market activity.

Why are there price ceilings?

They do benefit some people— people who are priced out can purchase a good if lucky.

Price floors

example: minimum wage (legal floor on wage which is the market price of labor).

How price floors cause inefficiency

1. Creates deadweight loss as it reduces the quantity of a good below the efficient level.

2. Typically leads to inefficient allocation of goods among sellers.

3. Leads to wasted resources

4. Leads to producers maintaining inefficiently low quality or condition.

Inefficiently high quality

sellers offer high-quality goods at a high price, even though buyers would prefer a lower quality at a lower price.

Why are there price floors?

Will benefit some influential sellers (government ignorance)

quantity control/ quota

an upper limit on the quantity of some good that can be bought or sold.

quota limit

The total amount of the good that can be legally transacted

license

gives owner the right to supply a good

demand price

the price at which consumers will demand that quantity

supply price

price at which producers will supply that quantity

wedge

driven by quota — wedge between the demand price and the supply price of a good; the price paid by buyers ends up being higher than received by sellers.

quantity controls lead to

1. deadweight loss because some mutually beneficial transactions dont occur

2. incentives for illegal activities

tariffs

example of excise tax