Chapter 5: Government Interference with Supply and Demand

Introduction

• The topic discusses the impact of government intervention on supply and demand curves.
• Setting prices above or below the market equilibrium can lead to surpluses or shortages.
• Understanding market price is essential for business operations and competition analysis.

Price Ceilings

• Definition: A price ceiling is when the government sets a price below the equilibrium market price.
• Example: Gas price controls in the 1970s led to shortages.
• Case Studies:
  • Mexico's tortilla price controls led to shortages.
  • Venezuela's economy faced severe shortages due to extensive price ceilings.
• Consequences:
  • Leads to shortages and black markets.
  • Causes violence and corruption.
  • Rent control can result in poor housing stock and a black market in apartments.

Price Floors

• Definition: A price floor is when the government sets a price above the equilibrium market price.
• Example: Minimum wage laws set a floor on wages.
• Impact on Employment:
  • Can theoretically lead to unemployment.
  • Increasing minimum wage can stimulate the economy by increasing consumer spending.
• Economic Debate:
  • Pros: More disposable income, reduced government assistance, increased workforce participation.
  • Cons: Potential higher prices, business cost increases.
• Equilibrium Debate: Many economists believe the equilibrium wage is already higher in many regions.

Quantity Restrictions

• Definition: Government limits the quantity of a good/service in the market.
• Example: Taxicab medallions in cities like New York and Chicago.
• Effects:
  • Increases prices by limiting supply.
  • Licensing requirements for professions (e.g., lawyers, doctors) ensure higher quality and safety.
  • Licensing can lead to higher wages due to limited entry into professions.

Excise Taxes

• Definition: A tax levied on the supplier of a good.
• Impact:
  • Leads to a decrease in supply, raising prices.
  • The burden of tax is usually shared between suppliers and consumers.

Third-Party Payer System

• Definition: The demander does not pay the full amount of goods/services.
• Example: Health insurance reduces out-of-pocket costs for patients.
• Implications:
  • Increases demand as people utilize services more due to lower perceived costs.
  • Preventive care can reduce overall healthcare costs and improve workforce productivity.
  • Health insurance can prevent severe financial consequences for individuals.

Conclusion

• Government intervention in markets can have complex effects and trade-offs.
• Price controls, quantity restrictions, and taxes can lead to unintended economic outcomes.
• It's essential to weigh the pros and cons of such policies to understand their impact on the economy and society.