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Econ 1 - Top-3 - Econ 1 PRINCIPLES OF MICROECONOMICS Foster...

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Econ 1 – PRINCIPLES OF MICROECONOMICS LECTURE NOTES Foster, UCSD 11-May-09 TOPIC 3 – APPLICATIONS A. Price Controls 1. Price Ceilings: a) Defn and effects. [Fig. 1] 1) Maximum legal price that may be charged. 2) If P max < P*, result is a shortage. 3) If P max P*, there is no effect. b) Motives for price ceilings. 1) Keep price low to help poor or punish suppliers -- rent control, usury laws. 2) Reduce price of basic inputs to curb inflation. 3) Redirect resources out of price-controlled industry. c) Rationing the shortage: Queuing Coupon rationing Seller preference Black markets 2. Case Study -- Rent Control in New York: [Fig. 2] a) The market for rental housing. 1) H = sq. ft. of rental housing space in a city. 2) SR supply curve is very price inelastic, since the stock of H only changes slowly over time. 3) LR supply is more price elastic since H can increase thru new construction or renting of rooms in private homes, and decrease thru condo conversion and depreciation. 4) The law of demand holds. If rents rise, people move away, rent smaller digs, buy homes, or stay with parents. b) Consequences of rent control. 1) Market starts in equilibrium at [R* H*]. Then a rent ceiling of R max is imposed. Supply can't change in the SR, but more is demanded, so shortage H d − H* develops. 2) The principal SR beneficiaries are people already renting in the city whose rent has gone down. Newcomers looking for cheap rent will not find apartments available. 3) Landlords are hurt immediately, since the market value of their apartment buildings has decreased by the present value of all the lost future rents. 4) Vitiating rent control -- furniture, deposits, key money. shortage X s X d D S P* P max Fig. 1 H’ H* H d R* R max D S’ S LRS Fig. 2
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Ec 1 APPLICATIONS p. 2 5) Seller preferences for families with no pets or children and with high incomes will be used to ration shortage. Poor people may end up worse than before. 6) Since renting apartments is no longer so profitable, the LR supply will fall as apart- ments are converted to condos and as landlords pay less for maintenance and upkeep of the existing stock. Supply drops and shortage worsens. c) Political aspects of rent control.
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