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• Price controls – Price ceiling: a legal maximum on the price of a good or service Example: rent control – Price floor: a legal minimum on the price of a good or service Example: minimum wage SUPPLY, DEMAND, AND GOVERNMENT POLICIES 1 EXAMPLE 1: The Market for Apartments P Rental price of apts S $800 Eq’m w/o price controls D 300 Q Quantity of apartments SUPPLY, DEMAND, AND GOVERNMENT POLICIES 2 How Price Ceilings Affect Market Outcomes A price ceiling above the eq’m price is not binding – has no effect on the market outcome. P S Price ceiling $1000 $800 D 300 SUPPLY, DEMAND, AND GOVERNMENT POLICIES 3 Q How Price Ceilings Affect Market Outcomes The eq’m price ($800) is above the ceiling and therefore illegal. The ceiling is a binding constraint on the price, causes a shortage. SUPPLY, DEMAND, AND GOVERNMENT POLICIES P S $800 Price ceiling $500 shortage D 250 4 400 Q EXAMPLE 2: The Market for Unskilled Labor Wage paid to unskilled workers W S $4 Eq’m w/o price controls D 500 Quantity of unskilled workers SUPPLY, DEMAND, AND GOVERNMENT POLICIES 5 L How Price Floors Affect Market Outcomes A price floor below the eq’m price is not binding – has no effect on the market outcome. W S $4 Price floor $3 D 500 SUPPLY, DEMAND, AND GOVERNMENT POLICIES 6 L How Price Floors Affect Market Outcomes The eq’m wage ($4) is below the floor and therefore illegal. The floor is a binding constraint on the wage, causes a surplus (i.e., unemployment). SUPPLY, DEMAND, AND GOVERNMENT POLICIES labor surplus W S Price floor $5 $4 D 400 7 550 L The Minimum Wage Min wage laws do not affect highly skilled workers. They do affect teen workers. unemployment S W $5 $4 Studies: A 10% increase in the min wage raises teen unemployment by 1-3%. SUPPLY, DEMAND, AND GOVERNMENT POLICIES Min. wage D 400 8 550 L ACTIVE LEARNING 1 Price controls P 140 Determine effects of: A. $90 price ceiling 130 The market for hotel rooms S 120 110 100 90 B. $90 price floor 80 C. $120 price floor 60 D 70 50 40 0 Q 50 60 70 80 90 100 110 120 130 9 ACTIVE LEARNING 1 A. $90 price ceiling The price falls to $90. P 140 The market for hotel rooms 130 S 120 Buyers demand 120 rooms, sellers supply 90, leaving a shortage. 110 100 90 80 Price ceiling shortage = 30 D 70 60 50 40 0 Q 50 60 70 80 90 100 110 120 130 10 ACTIVE LEARNING 1 B. $90 price floor Eq’m price is above the floor, so floor is not binding. P = $100, Q = 100 rooms. P 140 The market for hotel rooms 130 S 120 110 100 90 80 Price floor D 70 60 50 40 0 Q 50 60 70 80 90 100 110 120 130 11 ACTIVE LEARNING 1 C. $120 price floor The price rises to $120. Buyers demand 60 rooms, sellers supply 120, causing a surplus. P 140 130 120 110 The market for hotel rooms surplus = 60 S Price floor 100 90 80 D 70 60 50 40 0 Q 50 60 70 80 90 100 110 120 130 12 Evaluating Price Controls • Recall one of the Ten Principles from Chapter 1: Markets are usually a good way to organize economic activity. Prices are the signals that guide the allocation of society’s resources. This allocation is altered when policymakers restrict prices. Price controls often intended to help the poor, but often hurt more than help. SUPPLY, DEMAND, AND GOVERNMENT POLICIES 13