Government Intervention and Market Inefficiency

This deck covers the terminology and conceptual impacts of government interventions including taxes, price ceilings, and price floors in competitive markets.

Pareto efficient

An outcome in competitive markets where rational buyers and sellers make choices such that it is impossible to make someone better off without making someone else worse off, and total surplus is maximized.

Tax wedge

A price difference created by a unit tax where the price buyers pay per unit exceeds the price sellers receive by the size of the tax amount.

Tax incidence

The division of the tax burden between consumers and producers; it falls mostly on consumers when demand is more inelastic and on producers when supply is more inelastic.

Deadweight loss (DWL)

A reduction in total surplus caused by a tax or intervention that disturbs the equilibrium so that the quantity traded is no longer where $WTP = WTA$.

Ad valorem tax

A tax based on the value of a good, such as the 30% tax example which shifts the supply curve to \text{Supply with tax} = MC \times (1 + 30\text{% tax}).

Price rationing

The process by which price adjustments ensure that $Q_s = Q_d$ by allocating available units to consumers with the highest $WTP$ and producers with the lowest $WTA$.

Price ceiling

A regulation by authorities that sets a legally mandated maximum price intended to protect vulnerable groups.

Binding price ceiling

A price ceiling set below the equilibrium price (e.g., an $R80$ ceiling when equilibrium is $R100$) that causes a market shortage where $Q_d > Q_s$.

Rent ceiling

A specific price ceiling in housing markets that can result in shortages, potential economic rent for tenants, and increased search costs.

Search costs

The time and resources expended by potential tenants or consumers to find available units during a shortage, which represent a wastage of scarce resources to society.

Key deposits

Payments some landlords may use to potentially "claw back" rent illegally in a rent-controlled market, effectively favoring those with a high willingness to pay.

Price floor

A legally mandated minimum price that must be paid for a good or service.

Binding price floor

A price floor set above the equilibrium price (e.g., an $R120$ floor when equilibrium is $R100$) that causes a market surplus where $Q_s > Q_d$.

Minimum wage

A type of price floor in the labor market where the market-clearing wage is made illegal, often leading to a surplus of labor hours and involuntary unemployment.

Involuntary unemployment

A condition caused by a binding minimum wage where the quantity of labor hours supplied ($Q_s$) exceeds the quantity demanded ($Q_d$), harming workers who cannot manage to get a job.