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Unformatted text preview: Markets in Action CHAPTER CHECKLIST Chapter In Chapter 7 we look at the inefficiency that is created when the government imposes a rent ceiling in the housing market, a minimum wage in the labor market, and a price support in an agricultural mar‐ ket. Explain how a price ceiling works and show how a rent ceiling creates a housing shortage, inefficiency, and unfairness. A price ceiling is an upper limit on the price at which it is legal to trade a particular good, service, or factor of production. A rent ceiling is an example of a price ceiling. A rent ceiling set above the equilib‐ rium rent is ineffective. A housing shortage occurs when a rent ceiling is set below the equilibrium rent because the quantity of housing demanded exceeds the quantity of housing supplied. A black market is an illegal market that operates alongside a government regulated market. When a rent ceiling creates a shortage of housing, search activity, which is the time spent looking for someone with whom to do business, increases. A rent ceiling creates a deadweight loss and decreases consumer surplus and pro‐ ducer surplus. Rent ceilings violate the fair‐rules view of fairness because they block voluntary ex‐ change. Rent ceilings exist because of political support from current renters. Explain how a price floor works and show how the minimum wage creates unemployment, inefficiency, and unfairness. A minimum wage law is a government regulation that makes hiring labor services for less than a speci‐ fied wage illegal. A minimum wage law is an example of a price floor. A minimum wage set below the equilibrium wage rate is ineffective. Unemployment occurs when the minimum wage is set above the equilibrium wage rate because the quantity of labor supplied exceeds the quantity of labor demanded. A minimum wage increases job search activity and illegal hiring when some firms and workers agree to do business at an illegal wage rate below the minimum wage. The minimum wage creates a dead‐ weight loss. The minimum wage is unfair because it delivers an unfair result and imposes unfair rules. Explain how a price support in the market for an agricultural product creates a surplus, inefficiency, and unfairness. When governments intervene in agricultural markets, they isolate the domestic market from global competition by limiting imports. The government introduces a price floor, which in an agricultural market is called a price support. The price support leads to a surplus, so the government pays the farmers a subsidy by purchasing the surplus to keep the price at the support level. Consumers are worse off because the price rises and the quantity they purchase decreases. Consumer surplus shrinks. Farmers are better off because the price is higher and the government purchases the surplus to keep the price higher. A deadweight loss is created. Farmers in developing economies are harmed two ways: First, their exports to the domestic nation are limited and, second, the government sells the sur‐ plus it has purchased in the rest of the world, thereby lowering the price these farmers receive. 96 Part 3 . HOW GOVERNMENTS INFLUENCE THE ECONOMY CHECKPOINT 7.1 Explain how a price ceiling works and show how a rent ceiling creates a housing shortage, inefficiency, and unfairness. Quick Review • Price ceiling A government regulation that places an upper limit on the price at which a particular good, service, or fac‐ tor of production may be traded. Rent ceiling A government regulation that makes it illegal to charge more than a specified rent for housing. Effective rent ceiling When a rent ceiling is set below the equilibrium rent, the quan‐ tity of housing demanded is greater than the equilibrium quantity and the quan‐ tity of housing supplied is less than the equilibrium quantity. A housing short‐ age occurs. Price (dollars per round of golf) 50 40 30 20 10 Quantity Quantity demanded supplied (rounds per week) 2,000 2,800 2,300 2,700 2,600 2,600 2,900 2,500 3,200 2,400 • • 2. The table above gives the supply and demand schedules for rounds of golf at a city owned golf course. a. What is the equilibrium price and equilib‐ rium quantity of rounds of golf? b. Suppose the city government imposes a price ceiling of $40 a round of golf. What will be the price and quantity of rounds of golf? Is there a shortage? c. Suppose the city government imposes a price ceiling of $20 a round of golf. What will be the price and quantity of rounds of golf? Is there a shortage? Solutions to Additional Practice Problems 7.1 1a. In the figure, the equilibrium rent and the equilibrium quantity are determined at the point where the demand curve and the supply curve intersect. The rent is $750 a month and 3,000 apartments are rented. 1b. To answer this practice problem remember that a rent ceiling is effective only when it is set below the equilibrium price. The rent ceil‐ ing of $500 per month is below the equilib‐ rium rent, so it has an effect. The quantity of apartments rented decreases to 1,000 and the rent is $500. 1c. The market is inefficient because the mar‐ ginal benefit of the last apartment rented, the 1,000th apartment, exceeds the marginal cost of the apartment. Because the housing mar‐ ket is inefficient a deadweight loss arises. In Additional Practice Problems 7.1 1. The figure shows the rental market for apartments in Ocala, Florida. a. With no government intervention in this market, what is the rent and how many apartments are rented? b. If the government imposes a rent ceiling of $500 a month, what is the rent and how many apartments are rented? c. Tell why with a strictly enforced $500 rent ceiling the housing market is inefficient. What is the amount of the deadweight loss? d. With a strictly enforced $500 rent ceiling, is there a shortage or surplus of apart‐ ments? Chapter 7 . Markets in Action 97 the figure the deadweight loss is shown by the grey triangle. The amount of the dead‐ weight loss equals the area of the grey trian‐ gle. This area is 1/2 × ($1,000 − $500) × (3,000 − 1,000) = $500,000. 1d. There is a shortage of apartments. At the $500 rent ceiling, the quantity of apartments demanded is 5,000 and the quantity supplied is 1,000. So there is a shortage of 4,000 apartments. 2a. The equilibrium price is $30 a round of golf and the equilibrium quantity is 2,600 rounds a week. 2b. The price ceiling is above the equilibrium price, so the price remains at $30 a round and the quantity remains at 2,600 rounds a week. There is no shortage. 2c. The price ceiling is below the equilibrium price. The price falls to $20 a round. The quantity played equals the quantity supplied at $20, which is 2,500 rounds a week. There is a shortage of 400 rounds a week. 4. Rent ceilings are efficient because they lower the cost of housing to low‐income families. 5. The total loss from a rent ceiling exceeds the deadweight loss. Multiple choice 1. A price ceiling is a government regulation that makes it illegal to charge a price a. below the equilibrium price. b. above the equilibrium price. c. for a good or service. d. above some specified level. e. that is not equal to the equilibrium price. 2. When a price ceiling is set below the equilib‐ rium price, the quantity supplied ____ the quantity demanded and ____ exists. a. is less than; a surplus b. is less than; a shortage c. is greater than; a surplus d. is greater than; a shortage e. equals; an equilibrium 3. In a housing market with a rent ceiling set below the equilibrium rent, a. some people seeking an apartment to rent will not be able to find one. b. the total cost of renting an apartment will decrease for all those seeking housing. c. some landlords will not be able to find renters to fill available apartments. d. search will decrease because renters no longer need to search for less expensive apartments. e. None of the above answers are correct be‐ cause to have an impact the rent ceiling must be set above the equilibrium rent. Self Test 7.1 Fill in the blanks A price ceiling is the ____ (highest; lowest) price at which it is legal to trade a particular good, service, or factor of production. A rent ceiling is effective if it is set ____ (above; below) the equi‐ librium rent. A rent ceiling can create a housing ____ (shortage; surplus), which leads to ____ (increased; decreased) search activity. Rent ceil‐ ings ____ (can result in; do not result in) ineffi‐ ciency. The ____ (less; more) inelastic the de‐ mand or the supply of housing, the smaller the deadweight loss created by a rent ceiling. Rent ceilings ____ (are; are not) fair. True or false 1. A rent ceiling always lowers the rent paid. 2. When a rent ceiling is higher than the equi‐ librium rent, a black market emerges. 3. The opportunity cost of a dorm room is equal to its rent plus the value of the search time spent finding the dorm room. 98 Part 3 . HOW GOVERNMENTS INFLUENCE THE ECONOMY 4. A rent ceiling on housing creates a problem of allocating the available housing units be‐ cause a. the demand for housing decreases and the demand curve shifts leftward. b. the supply of housing increases and the supply curve shifts rightward. c. a shortage of apartments occurs. d. a surplus of apartments occurs. e. it eliminates search, which is one of the major ways housing units are allocated. loss from a rent ceiling is largest when the rent ceiling equals ____ per month. a. $1,000 b. $800 c. $600 d. $400 e. More information is needed to determine which of the rent ceilings has the largest deadweight loss. 18. Rent ceilings a. increase search activity. b. result in surpluses. c. are efficient. d. benefit producers. e. have no effect if they are set below the equilibrium rent. 19. Suppose that the government imposes a price ceiling on gasoline that is below the equilibrium price. The black market for gasoline is ____ market in which the price ____ the ceiling price. a. a legal; exceeds b. an illegal; exceeds c. a legal; is less than d. an illegal; is less than e. an illegal; equals 10. A rent ceiling creates a deadweight loss a. if it is set below the equilibrium rent. b. if it is set equal to the equilibrium rent. c. if it set above the equilibrium rent. d. if it decreases the taxes the government collects in the housing market. e. never, because if it did create a dead‐ weight loss, the government would not impose it. 11. Rent ceilings a. eliminate the problem of scarcity. b. allocate resources efficiently. c. ensure that housing goes to the poorer people. d. benefit renters living in rent‐controlled apartments. e. benefit all landlords because the land‐ lords know what rent to charge their renters. 5. Figure 7.1 shows a housing market. If the government imposes a rent ceiling of $1,000 per month, there will be a a. surplus of 2,000 units. b. shortage of 2,000 units. c. surplus of 4,000 units. d. shortage of 1,000 units. e. neither a shortage nor a surplus of units. 6. Figure 7.1 shows a housing market. If the government imposes a rent ceiling of $400 per month, there will be a a. shortage of 1,000 units. b. shortage of 2,000 units. c. shortage of 3,000 units. d. shortage of 4,000 units. e. neither a shortage nor a surplus of units. 7. Figure 7.1 shows a housing market. Of the rent ceilings listed below, the deadweight Chapter 7 . Markets in Action 99 Complete the graph c. Does the rent ceiling result in a shortage or a surplus of housing? Indicate the shortage or surplus in Figure 7.3. Short answer and numeric questions 1. What is a price ceiling? Price (dollars per carton) 1.00 1.25 1.50 1.75 2.00 Quantity Quantity demanded supplied (cartons per day) 200 110 175 130 150 150 125 170 100 190 1. Figure 7.2 shows the market for purses. a. What is the equilibrium price and quantity of purses? b. Suppose the government imposes a $20 price ceiling. With the price ceiling, what is the quantity of purses demanded and the quantity of purses supplied? What is the shortage? Indicate the shortage in the figure. c. The price ceiling creates a deadweight loss. Show the deadweight loss in the figure. Rent (dollars per month) 900 800 700 600 500 Quantity Quantity demanded supplied (housing units per month) 200 350 300 300 400 250 500 200 600 150 2. The table above gives the demand and sup‐ ply schedules for housing in a small town. In Figure 7.3, graph the demand and supply curves. Label the axes. a. What is the equilibrium rent and quantity of housing? b. Suppose the government imposes a $600 a month rent ceiling. With the rent ceiling, what is the quantity of housing demanded and the quantity of housing supplied? 2. The table above gives the demand and sup‐ ply schedules for milk. a. What is the market equilibrium in the milk market? b. Suppose the government imposes a price ceiling of $1.25 per carton. What is the price of a carton of milk and what quan‐ tity is purchased? Is there a shortage or surplus of milk? c. Suppose the government imposes a price ceiling of $1.75 per carton. What is the price of a carton of milk and what quan‐ tity is purchased? Is there a shortage or surplus of milk? 3. Are rent ceilings efficient? 4. Are rent ceilings fair? 100 Part 3 . HOW GOVERNMENTS INFLUENCE THE ECONOMY CHECKPOINT 7.2 Explain how a price floor works and show how the minimum wage creates unemployment, inefficiency, and unfairness. Quick Review • Price floor A government regulation that places a lower limit on the price at which a particular good, service, or factor of production may be traded. Minimum wage law A government regula‐ tion that makes hiring labor services for less than a specified wage illegal. Effective minimum wage law When the minimum wage is set above the equilib‐ rium wage rate, the quantity of labor demanded is less than the equilibrium quantity and the quantity of labor sup‐ plied is greater than the equilibrium quantity. Unemployment occurs. Price (cents per pound) 10 15 20 25 30 Quantity Quantity demanded supplied (tons of sugar per year) 300 225 275 275 250 325 225 375 200 425 • • 2. The above table gives the supply and demand schedules for sugar. a. What is the equilibrium price and quantity of sugar? b. Suppose the government imposes a price floor of 25¢ a pound. What is the quantity demanded and the quantity supplied? Is there a shortage or surplus and, if so, how much? Solutions to Additional Practice Problems 7.2 1a. The equilibrium wage rate and the equilib‐ rium quantity of the workers are determined where the labor demand curve and the labor supply curve intersect. The equilibrium wage rate is $7.50 an hour and the equilibrium quantity of workers is 150. 1b. In the figure, 50 fast food workers are em‐ ployed. This amount equals the quantity of labor demand‐ ed when the wage rate is $10 an hour. 1c. The minimum wage creates a surplus of workers. At the $10 wage rate, 200 workers are willing to work but firms are willing to hire only 50 workers. There is a surplus of 150 workers, that is, there are 150 workers unemployed. In the figure, the length of the arrow shows the 150 unemployed workers. 1d. The minimum wage of $10 an hour is not efficient because the marginal benefit to res‐ taurants who demand workers exceeds the marginal cost borne by the workers who supply work. A deadweight loss is created. Additional Practice Problems 7.2 1. The figure shows the market for fast food workers in Lake City Flor‐ ida. a. What is the equilibrium wage rate of the workers and what is the equilibrium quantity of workers em‐ ployed? b. If Lake City introduces a minimum wage for fast food workers of $10 an hour, how many fast food workers are employed? c. With the minimum wage, is there a sur‐ plus or a shortage of fast food workers? Indicate the amount of any shortage or surplus in the figure. d. Is the minimum wage of $10 an hour effi‐ cient? Is it fair? Chapter 7 . Markets in Action 101 An additional loss arises as unemployed workers search for jobs. The minimum wage is not fair. It violates the “fair‐rules” view of fairness because it prevents voluntary ex‐ change. It violates the “fair‐results” view of fairness because 100 workers lose their jobs and are made poorer. 2a. The equilibrium price is 15¢ a pound and the equilibrium quantity is 275 tons a year. 2b. The quantity demanded at 25¢ a pound is 225 tons and the quantity supplied is 375 tons. There is a surplus of 150 tons. Multiple choice 1. A price floor a. is the highest price at which it is legal to trade a particular good, service, or factor of production. b. is the lowest price at which it is legal to trade a particular good, service, or factor of production. c. is an illegal price to charge. d. is the equilibrium price when the stock market crashes. e. is the lowest price for which the quantity demanded equals the quantity supplied. 2. To be effective in raising people’s wages, a minimum wage must be set a. above the equilibrium wage rate. b. below the equilibrium wage rate. c. equal to the equilibrium wage rate. d. below $7. e. either above or below the equilibrium wage depending on whether the supply curve of labor shifts rightward or leftward in response to the minimum wage. 3. A minimum wage set above the equilibrium wage rate a. increases the quantity of labor services supplied. b. decreases the quantity of labor services supplied. c. has no effect on the quantity of labor ser‐ vices supplied. d. shifts the labor supply curve rightward. e. shifts the labor supply curve leftward. 4. Suppose the current equilibrium wage rate for lifeguards in Houston is $7.85 an hour. A minimum wage law that creates a price floor of $8.50 an hour leads to a. a surplus of lifeguards in Houston. b. a shortage of lifeguards in Houston. c. no changes in the lifeguard market. d. a change in the quantity of lifeguards supplied but no change in the quantity of lifeguards demanded. e. an increase in the number of lifeguards employed. Self Test 7.2 Fill in the blanks A minimum wage is a price ____ (ceiling; floor). A price floor is the ____ (highest; lowest) price at which it is legal to trade a particular good, service, or factor of production. If a minimum wage is set above the equilibrium wage rate, the quantity of labor demanded ____ (decreases; in‐ creases) and the quantity of labor supplied ____ (decreases; increases). A minimum wage ____ (creates; does not create) unemployment and ____ (decreases; increases) job search activity. An effi‐ cient allocation of labor occurs when the marginal ____ (benefit; cost) to firms ____ (equals; is greater than; is less than) the marginal ____ (benefit; cost) borne by workers. The minimum wage is ____ (fair; unfair). Labor unions ____ (do not support; support) the minimum wage. True or false 1. Firms hire labor, so they determine how much labor to supply in a market. 2. A minimum wage is effective when it is set above the equilibrium wage rate. 3. A minimum wage law can lead to increased job search activity and illegal hiring. 4. When a minimum wage is set above the equilibrium wage rate, the employee’s mar‐ ginal cost of working exceeds the employer’s marginal benefit from hiring labor. 5. A minimum wage is fair because low‐income workers receive an increase in take‐home pay. 102 Part 3 . HOW GOVERNMENTS INFLUENCE THE ECONOMY 5. An increase in the minimum wage ____ em‐ ployment and ____ unemployment. a. increases; increases b. increases; decreases c. decreases; increases d. decreases; decreases e. does not change; increases 18. If a minimum wage is introduced that is above the equilibrium wage rate, a. the quantity of labor services demanded increases. b. job search activity increases. c. the supply of labor increases and the sup‐ ply of labor curve shifts rightward. d. unemployment decreases because more workers accept jobs at the higher mini‐ mum wage rate. e. the quantity of labor supplied decreases because of the increase in unemployment. 19. The minimum wage is set above the equilib‐ rium wage rate. Does the minimum wage create inefficiency? a. Yes. b. No. c. Only if the supply of labor is perfectly inelastic. d. Only if the supply of labor is perfectly elastic. e. Only if employment exceeds the efficient amount. 10. When the minimum wage is raised, the ____ union labor ____. a. demand for; increases b. demand for; decreases c. supply of; increases d. supply of; decreases e. demand for; does not change Complete the graph Wage rate (dollars per hour) 6 7 8 9 10 Quantity Quantity demanded supplied (workers per day) 3,500 2,750 3,000 3,000 2,500 3,250 2,000 3,500 1,500 3,750 6. Figure 7.4 shows the market for fast food workers in San Francisco. A minimum wage of $11 per hour leads to unemployment of ____ workers. a. 1,000 b. 2,000 c. 3,000 d. 4,000 e. 5,000 7. In Figure 7.4, which of the following mini‐ mum wages creates the most unemploy‐ ment? a. $7 an hour b. $8 an hour c. $9 an hour d. $10 an hour e. $11 an hour 1. The table above gives the demand and sup‐ ply schedules for labor in a small town. a. In Figure 7.5, on the next page, label the axes. Draw the labor demand and labor supply curves. What is the equilibrium wage rate and employment. Chapter 7 . Markets in Action 103 ening the vertical axis for all the minimum wages that create unemployment. Short answer and numeric questions 1. What is the effect of a minimum wage set be‐ low the equilibrium wage rate? 2. How does a minimum wage affect the time needed to find a job? 3. Do all low‐wage workers benefit from a minimum wage? b. Suppose the government imposes a $6 an hour minimum wage. What is the effect on the wage rate and levels of employ‐ ment and unemployment? c. Suppose the government raises the mini‐ mum wage from $6 an hour to $9 an hour. What is the effect on the wage rate and levels of employment and unemploy‐ ment? Indicate any unemployment. CHECKPOINT 7.3 Explain how a price support in the market for an agricultural product creates a surplus, inefficiency, and unfairness. Quick Review • Price support A price support is a price floor in an agricultural market main‐ tained by a government guarantee to buy any surplus output at that price. The price support is the minimum price for which the product may be sold. 2. Figure 7.6 shows the labor demand and labor supply curves for Rochester, New York. Suppose the city is considering instituting a minimum wage. Indicate the minimum wages that lead to unemployment by dark‐ Additional Practice Problems 7.3 1. The figure shows the market for sugar. a. What are the equilibrium price and quantity of sugar? b. Suppose the government puts in place a price support for sugar at $4 per pound. In the figure above, indicate this price support. c. With the price support, how much sugar is produced? How much sugar is pur‐ chased by private consumers? How much is purchased by the government? 104 Part 3 . HOW GOVERNMENTS INFLUENCE THE ECONOMY d. With the price support, what is the sub‐ sidy received by sugar producers? e. Are consumers made better off or worse off with the price support? f. Without the price support, is the market efficient? With the price support, is the market efficient? 2. With a price support, the government pays a subsidy to farmers by buying part of the crop. Why is this purchase necessary? Solutions to Additional Practice Problems 7.3 1a. The equilib‐ rium price and the equilibrium quantity of sugar are determined where the demand curve and the supply curve intersect. The figure shows that the equilibrium price is $2 a pound and the equilibrium quantity is 3 billion pounds a year. 1b. The price support is shown in the figure as the solid line at $4 per pound. 1c. With the price support, the supply curve shows that at $4 per pound, 4 billion pounds of sugar are produced. The demand curve shows that at this price consumers buy 2 bil‐ lion pounds. The government buys the sur‐ plus quantity of sugar, 2 billion pounds. 1d. The government buys 2 billion pounds of sugar at $4 per pound, so the subsidy is 2 bil‐ lion pounds × $4 per pound, which is $8 bil‐ lion. 1e. Consumers are worse off with the price sup‐ port. With the price support the price they must pay for sugar increases, from $2 per pound to $4 per pound. In response consum‐ ers decrease the quantity of sugar they con‐ sume from 3 billion pounds to 2 billion pounds. 1f. Without the price support, the market is effi‐ cient. With the price support, the market is not efficient. 2. The price support leads to a surplus of the crop. If the government did not buy the sur‐ plus, the farmers would not be able to cover their costs because there would be part of the crop left unsold. Self Test 7.3 Fill in the blanks A price support is a ____ (price ceiling; price floor) in an agricultural market. The govern‐ ment maintains the price support by guarantee‐ ing to ____ (buy; sell) the product at the support price. The government gives a ____ to produc‐ ers to cover part of the costs of production. When the price support is above the equilib‐ rium price, producers ____ (increase; decrease) the quantity supplied and consumers ____ (in‐ crease; decrease) the quantity demanded. Farm‐ ers ____ (gain; lose) from a price support and consumers ____ (gain; lose) from a price sup‐ port. A price support ____ (creates; does not create) inefficiency and a deadweight loss. True or false 1. In order to have an effective price support, the government isolates the domestic market from the world market by restricting im‐ ports. 2. A price support sets the maximum price for which farmers may sell their crop. 3. In order to keep the price of a crop above the equilibrium price and equal to the supported price, the government must buy some of the crop. 4. Because they decrease production, price supports decrease farmers’ total revenue. 5. Price supports are efficient because they gu‐ arantee production of the good. Chapter 7 . Markets in Action 105 Multiple choice 1. Price supports are generally used in a. labor markets. b. industrial markets. c. housing markets. d. markets for services. e. agricultural markets. 2. To have an effective price support program, the government must i. isolate the domestic market from the world market ii. pay the farmers a subsidy iii. introduce a price floor a. i only. b. ii only. c. iii only. d. ii and iii. e. i, ii, and iii. 3. A price support directly sets the a. amount of production. b. subsidy the government must receive from producers. c. equilibrium quantity. d. lowest price for which the good may be sold. e. highest price for which the good may be sold. 4. To keep the price at the level set by the price support, the government must a. buy some of the good. b. sell some of the good. c. receive a subsidy from the producers. d. insure that imports are readily available. e. be careful to always set the price support below the equilibrium price. 5. With a price support program, who receives a subsidy? a. only consumers b. only producers c. the government d. importers e. both consumers and producers receive a subsidy 6. When a price support is set above the equi‐ librium price, producers ____ the quantity supplied and consumers ____ the quantity demanded. a. increase; increase b. increase; decrease c. decrease; increase d. decrease; decrease e. do not change; do not change 7. Figure 7.7 shows a price support program in an agricultural market. The amount of the subsidy necessary to keep the price at the price support is a. $4. b. $32,000. c. $8,000. d. $16,000. e. $24,000. 8. A price support ____ producers and ____ a deadweight loss. a. has no effect on; does not create b. benefits; creates c. harms; creates d. benefits; does not create e. harms; does not create 106 Part 3 . HOW GOVERNMENTS INFLUENCE THE ECONOMY Complete the graph Price (dollars per bushel) 3 4 5 6 7 Quantity Quantity demanded supplied (millions of bushels per year) 3,500 2,000 3,000 3,000 2,500 4,000 2,000 5,000 1,500 6,000 1. The table gives the demand and supply schedules for wheat. a. In Figure 7.8 label the axes. Draw the de‐ mand curve and supply curve and indi‐ cate the equilibrium price and quantity. 2. Figure 7.9 shows the demand and supply curves for peanuts. There is a price support of $40 per ton of peanuts. a. At the support price, what is the quantity of peanuts produced? What is the quantity consumers buy? How many tons of pea‐ nuts must the government buy? Indicate the amount the government must buy in Figure 7.9. b. How much is the subsidy paid by the government to producers? Short answer and numeric questions 1. Why must a price support be set above the equilibrium price in order to have an effect? 2. “A price support program benefits producers and harms consumers. But there is no overall net effect on society.” Comment on the above assertion. Is it correct or incorrect? b. Suppose the government imposes a price support of $5 per bushel. What is the ef‐ fect on the price of wheat, the quantity of wheat produced and the marginal cost of a bushel of wheat? Is there a deadweight loss? c. With the $5 per bushel price support, how much wheat do consumers buy? What is the subsidy the government must pay to producers? Chapter 7 . Markets in Action 107 SELF TEST ANSWERS CHECKPOINT 7.1 Fill in the blanks A price ceiling is the highest price at which it is legal to trade a particular good, service, or fac‐ tor of production. A rent ceiling is effective if it is set below the equilibrium rent. A rent ceiling can create a housing shortage, which leads to increased search activity. Rent ceilings can re‐ sult in inefficiency. The more inelastic the de‐ mand or the supply of housing, the smaller the deadweight loss created by a rent ceiling. Rent ceilings are not fair. True or false 1. False; page 168 2. False; pages 168‐169 3. True; page 170 4. False; page 172 5. True; page 172 Multiple choice 11. d; page 168 12. b; pages 168‐169 13. a; page 169 14. c; page 169 15. e; page 168 16. d; page 169 17. d; page 172 18. a; page 170 19. b; pages 169‐170 10. a; page 172 11. d; page 175 Complete the graph 1. a. The equilibrium price is $30 per purse and the equilibrium quantity is 3,000 purses. b. The quantity of purses demanded is 4,000, the quantity of purses supplied is 2,000, and the shortage equals 2,000 purses. In Figure 7.10, the shortage equals the length of the double‐headed arrow; page 169. c. The deadweight loss is shown in the fig‐ ure; page 172. 2. Figure 7.11 shows the demand curve and supply curve. The equilibrium rent is $800 a month and the quantity is 300 housing units a month. a. The quantity of housing demanded is 500 units a month; the quantity supplied is 200 units a month; page 170. b. The shortage of 300 units a month is indi‐ cated by the arrow; page 170. Short answer and numeric questions 1. A price ceiling is the highest price at which it is legal to trade a particular good, service, or factor of production; page 168. 2. a. The equilibrium price is $1.50 a carton and the quantity is 150 cartons a day. b. The price is $1.25 a carton and 130 cartons 108 Part 3 . HOW GOVERNMENTS INFLUENCE THE ECONOMY a day are purchased. There is a shortage of 45 cartons a day; page 169. c. The price ceiling is above the equilibrium price, and is ineffective. The price is $1.50 a carton, 150 cartons a day are purchased, and there is neither a shortage nor a sur‐ plus; page 168. 3. Rent ceilings create a deadweight loss and are not efficient; page 172. 4. Rent ceilings are not fair. They violate both the fair‐results view and fair‐rules view of fairness; page 175. Complete the graph CHECKPOINT 7.2 Fill in the blanks A minimum wage is a price floor. A price floor is the lowest price at which it is legal to trade a particular good, service, or factor of production. If a minimum wage is set above the equilibrium wage rate, the quantity of labor demanded de‐ creases and the quantity of labor supplied in‐ creases. A minimum wage creates unemploy‐ ment and increases job search activity. An effi‐ cient allocation of labor occurs when the mar‐ ginal benefit to firms equals the marginal cost borne by workers. The minimum wage is un‐ fair. Labor unions support the minimum wage. True or false 1. False; page 175 2. True; page 176 3. True; page 177 4. False; page 178 5. False; page 179 Multiple choice 11. b; page 175 12. a; page 176 13. a; page 176 14. a; page 176 15. c; pages 176‐177 16. d; page 176 17. e; pages 176‐177 18. b; page 177 19. a; page 178 10. a; page 179 1. a. Figure 7.12 shows the demand and supply curves. The equilibrium wage rate is $7 an hour and the equilibrium employment is 3,000 workers a day. b. The $6 minimum wage is below the equi‐ librium wage and has no effect; page 176. c. The $9 minimum wage raises the wage rate to $9. Employment decreases to 2,000 workers. The number of workers looking for work is 3,500. Unemployment equals 3,500 − 2,000, which is 1,500 people. The amount of unemployment is shown by the arrow in Figure 7.12; pages 176‐177. 1. In order to have an effect in the market, the Chapter 7 . Markets in Action 109 minimum wage must be set above the equi‐ librium wage. As Figure 7.13 shows, any minimum wage above $8 per hour creates unemployment; page 176. Short answer and numeric questions 1. A minimum wage set below the equilibrium wage rate has no effect on the wage rate or amount of employment; page 176. 2. By decreasing the quantity of labor de‐ manded and creating unemployment, a minimum wage increases the time spent searching for a job; page 177. 3. A minimum wage harms low‐wage workers who lose their jobs or cannot find jobs be‐ cause of the minimum wage; page 179. 6. b; page 182 7. d; page 182 8. b; page 183 Complete the graph CHECKPOINT 7.3 Fill in the blanks A price support is a price floor in an agricul‐ tural market. The government maintains the price support by guaranteeing to buy the prod‐ uct at the support price. The government gives a subsidy to producers to cover part of the costs of production. When the price support is above the equilibrium price, producers increase the quantity supplied and consumers decrease the quantity demanded. Farmers gain from a price support and consumers lose from a price sup‐ port. A price support creates inefficiency and a deadweight loss. True or false 1. True; page 181 2. False; page 181 3. True; page 182 4. False; page 183 5. False; page 183 Multiple choice 1. e; page 181 2. e; page 181 3. d; page 181 4. a; page 182 5. b; page 182 1. a. Figure 7.14 shows the demand and supply curves. The equilibrium price is $4 a bushel and the equilibrium quantity is 3,000 million bushels a year. b. The $5 per bushel price support is illus‐ trated in the figure. This price support raises the price of wheat to $5 per bushel. The quantity of wheat produced increases to 4,000 million bushels per year and the marginal cost of the last bushel of wheat produced increases to $5. There is a dead‐ weight loss because the marginal cost ex‐ ceeds the marginal benefit; page 182. c. With the price support, consumers buy only 2,500 million bushels per year. There is a surplus of 1,500 million bushels (4,000 million bushels produced minus $2,500 million purchased by consumers) that the government must buy. The government pays a subsidy of $5 per bushel × 1,500 million bushels, which is $7.5 billion; page 182. 110 Part 3 . HOW GOVERNMENTS INFLUENCE THE ECONOMY 2. a. Figure 7.15 shows that at the support price of $40 per ton, 5,000 tons are produced and consumers buy 2,000 tons. The gov‐ ernment must buy the surplus, 3,000 tons. The amount the government must buy is equal to the length of the arrow in Figure 7.15; page 182. b. To buy the surplus, the government pays a subsidy to producers of $40 per ton × 3,000 tons, which is $120,000; page 182. Short answer and numeric questions 1. If a price support is set below the equilib‐ rium price, it does not make the equilibrium price illegal and so is ineffective. If a price support is set above the equilibrium price, it makes the equilibrium price illegal and is ef‐ fective; page 181. 2. The first assertion is correct: a price support program increases producer surplus (which benefits producers) and decreases consumer surplus (which harms consumers). But the second assertion is incorrect. There is a net effect on society because a deadweight loss is created, which harms society; page 182. ...
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