Chapter 6 - Supply, Demand, and government policies

Chapter 6 - Supply, Demand, and government policies -...

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Chapter Supply, Demand, and Government Policies 6
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Controls on Prices How price ceilings affect market  outcomes Price ceiling Legal maximum on the price at which a good  can be sold Not binding Above the equilibrium price No effect Binding constraint Below the equilibrium price Shortage  Sellers must ration the scarce goods 2
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Figure A market with a price ceiling 1 3 Price of Ice Cream Cones Quantity of Ice-Cream Cones 0 Demand 100 (a) A price ceiling that is not binding In panel (a), the government imposes a price ceiling of $4. Because the price ceiling is above the equilibrium price of $3, the price ceiling has no effect, and the market can reach the equilibrium of supply and demand. In this equilibrium, quantity supplied and quantity demanded both equal 100 cones. In panel (b), the government imposes a price ceiling of $2. Because the price ceiling is below the equilibrium price of $3, the market price equals $2. At this price, 125 cones are demanded and only 75 are supplied, so there is a shortage of 50 cones. (b) A price ceiling that is binding 3 Supply $4 Price ceiling Equilibrium price Equilibrium quantity Price of Ice Cream Cones Quantity of Ice-Cream Cones 0 Demand $3 Supply 2 Price ceiling Equilibrium price 75 Quantity demanded Quantity supplied 125 Shortage
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1973, OPEC raised the price of crude oil  Reduced the supply of gasoline Long lines at gas stations  What was responsible for the long gas lines? OPEC: created shortage of gasoline U.S. government regulations: price ceiling on  gasoline Before OPEC raised the price of crude oil Equilibrium price - below price ceiling: no effect When the price of crude oil rose Reduced the supply of gasoline Equilibrium price – above price ceiling: shortage Lines at the gas pump 4
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Figure The market for gasoline with a price ceiling 2 5 Price of Gasoline Quantity of Gasoline 0 Demand Q 1 (a) The price ceiling on gasoline is not binding Panel (a) shows the gasoline market when the price ceiling is not binding because the equilibrium price, P 1 , is below the ceiling. Panel (b) shows the gasoline market after an increase in the price of crude oil (an input into making gasoline) shifts the supply curve to the left from S 1 to S 2 . In an unregulated market, the price would have risen from P 1 to P 2 . The price ceiling, however, prevents this from happening. At the D S (b) The price ceiling on gasoline is binding P 1 Supply, S 1 Price ceiling 1. Initially, the price ceiling is not binding … Price of Gasoline Quantity of Gasoline 0 Demand Q 1 P 1 S 1 Price ceiling 2…but when supply falls… S 2 P 2 3…the price ceiling becomes binding… Q S Q D 4. …resulting in a shortage
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Price ceiling: rent control Local government - ceiling on rents Goal: help the poor (housing more affordable) Critique: highly inefficient way to help the poor 
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This note was uploaded on 10/26/2010 for the course ECON 002 taught by Professor Eudey during the Spring '08 term at UPenn.

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Chapter 6 - Supply, Demand, and government policies -...

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