Price Controls and Quotas: Meddling With Markets
Price Controls and Quotas: Meddling With Markets
Price Controls and Quotas: Meddling With Markets
C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
What you will learn
in this chapter
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
INTERFERENCE IN MARKETS HAS
CONSEQUENCES
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
PRICE CEILINGS
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
HOW PRICE CEILINGS CAUSE
INEFFICIENCY
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
THE MARKET FOR APARTMENTS
Monthly rent
(per apartment)
Quantity of apartments
S Monthly rent (millions)
$1,400 (per apartment) Quantity Quantity
1,300 demanded supplied
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
THE EFFECTS OF A PRICE CEILING
Monthly rent (per
apartment)
S
$1,400
1,200
E
1,000
Price
A B ceiling
800
Housing shortage of
400,000 apartments
600 caused by price D
ceiling
S
$1,400
Nonbinding
price ceiling
1,200
Only a price ceiling
1,000
E that forces price below
equilibrium will have
A B
800 any effect (called
Binding, or effective,
price ceiling
binding or effective).
600 D
UQuantity
B L I ofS apartments
H E R S (millions)
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C O P Y R I G H T 2 0 1 5 W O R T H P
Check Your Understanding 5-1
LEARN BY DOING: PRACTICE QUESTION
Question 1
Homeowners near Middletown University’s stadium used
to rent parking spaces in their driveways to fans at a
going rate of $11.
A new town ordinance now sets a maximum parking fee of
$7. Use the accompanying supply and demand diagram to
answer the following questions.
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
1a) Given the new price of $7 some homeowners now think
LEARN BY
it’s not worth the DOING:
hassle to rentPRACTICE
out spaces. ThisQUESTION
causes:
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
1a) Given the new price of $7 some homeowners now think
LEARN BY
it’s not worth the DOING:
hassle to rentPRACTICE
out spaces. ThisQUESTION
causes:
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
INEFFICIENTLY LOW QUANTITY
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
1a) Given the new price of $7 some homeowners now think
LEARN BY
it’s not worth the DOING:
hassle to rentPRACTICE
out spaces. ThisQUESTION
causes:
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
A PRICE CEILING CAUSES
INEFFICIENTLY LOW QUANTITY
Monthly rent
(per apartment)
Deadweight loss
from fall in number
S
$1,400 of apartments rented
1,200
E
1,000
Price
ceiling
800
600 D
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
WINNERS AND LOSERS FROM RENT
CONTROL
Monthly rent (per (a) Before rent control Monthly rent (b) After rent control
apartment) (per apartment)
Consumer surplus
Consumer S Consumer surplus S
surplus transferred from
$1,400 $1,400 producers
800 800
600 600
Producer Producer Deadweight loss
surplus D surplus D
0 1.6 1.8 2.0 2.2 2.4 0 1.6 1.8 2.0 2.2 2.4
Producers lose; some lucky renters gain; and some unlucky but
willing renters don’t get a place at all. Back to
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
INEFFICIENT ALLOCATION TO
CUSTOMERS
Price controls distort signals that would help the goods
get allocated their highest-valued uses.
Consumers who value a good most don’t necessarily get it.
So producers have no incentive to supply the good to the
“right” people first.
As a result, goods are misallocated.
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
INEFFICIENTLY LOW QUALITY
At the controlled price, sellers have more
customers than goods.
In a free market, this would be an opportunity to
profit by raising prices.
But when prices are controlled, sellers cannot.
Sellers respond to this problem in two ways:
Reduce quality
Reduce service
When did full-service gas stations go away? During the price
ceilings in the 1970s.
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
LEARN BY DOING: APPLICATION VIDEO
Chris Rock has a humorous take on a creative way to use price floors in this
clip from an HBO comedy special. Click here or on the picture for a humorous
look at the New York City rent controls.
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
BLACK MARKETS
A black market is a market in which goods or
services are bought and sold illegally—either
because they are prohibited or because the
equilibrium price is illegal.
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
LEARN BY DOING: APPLICATION VIDEO
In this clip from Seinfeld, we see how alternate rationing
mechanisms come into play with a rent ceiling. (4:50
minutes)
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
1a) Given the new price of $7 some homeowners now think
LEARN BY
it’s not worth the DOING:
hassle to rentPRACTICE
out spaces. ThisQUESTION
causes:
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
1a) Given the new price of $7 some homeowners now think
LEARN BY
it’s not worth the DOING:
hassle to rentPRACTICE
out spaces. ThisQUESTION
causes:
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
SO WHY ARE THERE PRICE CEILINGS?
They do benefit some people (who are typically better
organized and more vocal than those who are harmed by
them).
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
THE MARKET FOR BUTTER IN THE
ABSENCE OF GOVERNMENT CONTROLS
Price of butter
(per pound)
S
$1.40
Quantity of butter
1.30 (millions of pounds)
Price of butter Quantity Quantity
1.20 (per pound) supplied
demanded
1.10 $1.40 8.0 14.0
E
$1.30 8.5 13.0
1.00
$1.20 9.0 12.0
0.90 $1.10 9.5 11.0
0.80 $1.00 10.0 10.0
$0.90 10.5 9.0
0.70 $0.80 11.0 8.0
0.60 $0.70 11.5 7.0
D $0.60 12.0 6.0
0 6 7 8 9 10 11 12 13 14
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
BINDING, OR EFFECTIVE, PRICE FLOORS
Price of butter If a price floor is set below equilibrium, it will
(per pound)
have no effect (called nonbinding).
S
$1.40
Binding, or effective,
price floor
1.20
A B
E
Only a price floor
1.00
that forces price
above equilibrium
0.80
Nonbinding price floor
will have any effect
0.60
(binding, or
D
effective).
0 6 8 9 10 12 14
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
HOW A PRICE FLOOR CAUSES
INEFFICIENCY
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
THE EFFECTS OF A PRICE FLOOR
Price of butter
(per pound)
1.20
A B
E Price floor
1.00
0.80
0.60 D
0 6 8 9 10 12 14
S
$1.40
1.20
Deadweight
loss E Price floor
1.00
0.80
0.60
D
0 6 8 9 10 12 14 Quantity of butter
(millions of pounds)
Quantity Quantity demanded
demanded with without price floor
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
INEFFICIENT ALLOCATION OF SALES
AMONG SELLERS
Price floors misallocate sales by:
Allowing high-cost firms to operate.
Preventing low-cost firms from entering the industry.
Price floors and regulation prevented Southwest (and 79
other firms) from entering the national market
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
WASTED RESOURCES
Price floors encourage waste.
To deal with the surplus generated by
agricultural price floors, the U.S. government
sometimes buys back the excess and donates or
destroys it.
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
INEFFICIENTLY HIGH QUALITY
Higher quality raises costs and reduces sellers’ profit.
Buyers get higher quality but would prefer a lower price.
Price floors encourage sellers to waste resources:
higher quality than buyers are willing to pay for
G price 2(with
0 1 5 no
W food
O R T included)
contents
C O P Y R I H T H P U B L I S H E R S
ILLEGAL ACTIVITY
Price floors encourage black markets.
There are willing sellers (and buyers) at illegal
prices, so they are tempted to break the law and
trade with each other.
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
THE MARKET FOR TAXI RIDES IN THE
ABSENCE OF GOVERNMENT CONTROLS
Quantity of rides
Fare
(per ride) (millions per year)
Fare Quantity Quantity
(per ride) demanded supplied
S
$7.00 $7.00 6 14
6.50 $ 6.50 7 13
$ 6.00 8 12
6.00
$ 5.50 9 11
5.50 E
$ 5.00 10 10
5.00
$ 4.50 11 9
4.50
$ 4.00 12 8
4.00
$ 3.50 13 7
3.50
$ 3.00 14 6
3.00 D
0 6 7 8 9 10 11 12 13 14
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
LEARN BY DOING: DISCUSS
With a partner, choose either to
1. defend the United States’ sugar
import quotas or
2. attack them.
Imagine you are a young
congressional staffer charged with
collecting arguments to use for your
side in Congress.
Brainstorm two or more arguments
you would use and be ready to
share.
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
EFFECT OF A QUOTA ON THE
MARKET FOR TAXI RIDES
Fare Quantity of rides
(per ride) (millions per year)
Fare Quantity Quantity
(per ride) demanded supplied
S
$7.00 $7.00 6 14
6.50 $6.50 7 13
A
6.00 $6.00 8 12
5.50 E $5.50 9 11
5.00 $5.00 10 10
4.50 $4.50 11 9
4.00 $4.00 12 8
B
3.50 $3.50 13 7
3.00 D $3.00 14 6
Quota
0 6 7 8 9 10 11 12 13 14
S
$7.00 Deadweight loss The Wedge, or Quota,
6.50
6.00
A rent: the difference
5.50
The
wedge E
between the demand
5.00 price and the supply price
4.50
at the quota limit. Equal
4.00
3.50
B
to the market price of the
3.00 D license when the license
Quota is traded.
0 6 7 8 9 10 11 12 13 14
Unlicensed
Unlicensed cabs
cabs are
are aa side
side effect
effect of
of quantity
quantity controls…
controls… but
but also
also an
an opportunity
opportunity for
for
alternate
alternate models
models like
like Über.
Über.
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
LEARN BY DOING: PRACTICE QUESTION
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
LEARN BY DOING: PRACTICE QUESTION
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
LEARN BY DOING: PRACTICE QUESTION
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
LEARN BY DOING: PRACTICE QUESTION
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C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S