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7-4 - G o v e r n m e n t In te r v e n tio n a s Im p lic...

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1 Taxation by another name 7-4 Price Control Government Intervention as Implicit Taxation Government intervention in the form of price controls can be viewed as a combination tax and subsidy. A price ceiling is an implicit tax on producers and an implicit subsidy to producers that causes a welfare loss identical to the loss from taxation. A price floor is a tax on consumers and a subsidy for producers that transfers consumer surplus to producers. Price Ceilings • A price ceiling is a government-set price below market equilibrium price. It is an implicit tax on producers and an implicit subsidy to consumers. Effect of a Price Ceiling P 0 Q 0 Quantity Price Q 1 S D Producer surplus Consumer surplus Welfare loss P 1 Price ceiling Transferred to consumers F D C E B A
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2 Price Floors • A price floor is a government-set price above equilibrium price. It is a tax on consumers and a subsidy to producers. Price floors transfer consumer surplus to producers. Effect of a Price Floor P 0 Q 0 Quantity Price Q 1 S D Producer surplus Consumer surplus Welfare loss Transferred to producers F D C E B A P 1 Price floor The Difference Between Taxes and Price Controls Price ceilings create shortages and taxes do not unless people try to evade them. Taxes leave people free to choose how much to supply and consume as long as they pay the tax. Shortages also create black markets. A Price Ceiling with Forced Supply The draft is an example of a price ceiling with forced supply. A draft must be imposed when the wage offered by the army is below equilibrium and the quantity of soldiers supplied is below the quantity demanded.
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