Overview
This lecture introduces price controls, focusing on price ceilings, their effects on markets, efficiency, and real-world examples.
Introduction to Price Controls
- Price controls are government-set limits on prices in markets, taking two forms: price ceilings (maximums) and price floors (minimums).
- Economics often involves tradeoffs, and price controls come with costs and unintended consequences.
Price Ceilings
- A price ceiling is a legal maximum price for a good or service; prices cannot rise above this limit.
- Rent control is a common example, where maximum rent is set to make housing more affordable.
- For a price ceiling to have an effect ("binding"), it must be set below the market equilibrium price.
- Binding price ceilings increase quantity demanded and decrease quantity supplied, creating a shortage.
Real-World Examples of Price Ceilings and Shortages
- Zimbabwe's price controls during hyperinflation led to shortages and empty shelves.
- New York City’s rent controls after WWII resulted in housing shortages and poor maintenance.
- During the 1970 oil crisis, US gas price ceilings caused long lines and fuel shortages.
Economic Effects of Price Ceilings
- Consumer surplus is the area below the demand curve and above the price ceiling, but only for the quantity actually sold.
- Producer surplus is the area above the supply curve and below the price ceiling, also limited to the quantity supplied.
- Total surplus (efficiency) decreases under price ceilings, creating "deadweight loss," which is lost mutually beneficial trades.
- Price ceilings often result in inefficient allocation—apartments may not go to those who value them most, but to those willing to wait in line.
Additional Consequences of Price Ceilings
- Quality of goods or services often declines, as producers have less incentive to invest in maintenance or improvement.
- Black markets can emerge as consumers offer extra payments to secure goods, leading to illegal or unofficial transactions.
Key Terms & Definitions
- Price Ceiling — Legal maximum price allowed in the market for a good or service.
- Price Floor — Legal minimum price allowed in the market for a good or service.
- Consumer Surplus — Value consumer gains, area between demand curve and price (for units actually bought).
- Producer Surplus — Value producer gains, area between supply curve and price (for units actually sold).
- Deadweight Loss — Reduction in total surplus from market inefficiency, such as trades that no longer occur.
- Binding Price Ceiling — A price ceiling set below equilibrium price, causing a shortage.
- Black Market — Unofficial, often illegal market that arises to evade price controls.
Action Items / Next Steps
- Review examples of price ceilings and identify their effects on supply, demand, and surplus.
- Prepare for further discussion on price floors in upcoming classes.