Question

Assignment 3

Questions 1. Consider the marker for some product X that is represented in the demand-and-supply diagram.

a. Suppose the government decides to impose a price floor at P1. Describe how this affects price, quantity and marker efficiency.

b. Suppose the government decides to impose a price floor at P2. Describe how this affects price, quantity and marker efficiency.

c. Suppose the government decides to impose a price ceiling at P1. Describe how this affects price, quantity and marker efficiency.

d. Suppose the government decides to impose a price ceiling at P2. Describe how this affects price, quantity and marker efficiency.

Assignment 3 Questions 1. Consider the marker for some product X that is represented in the demand-and-supply diagram. Suppose the government decides to impose a price floor at Pl. Describe how this affects price, quantity and marker efficiency b. Suppose the government decides to impose a price floor at P2. Describe how this affects price, quantity and marker efficiency. 6. Suppose the government decides to impose a price ceiling at Pl. Describe how this affects price, quantity and marker efficiency. Suppose the government decides to impose a price ceiling at P2. Describe how this affects price, quantity and marker efficiency

Answer 1

a. A price floor is a legal minimum below which a good cannot be sold legally in the market. It is binding when it is above the market clearing price. Suppose the government decides to impose a price floor at P1. P1 lies below the market clearing price of P* so this price floor is not binding and so it is not effective. Hence this does not affect the market price, quantity and market efficiency.

b. A price floor is a legal minimum below which a good cannot be sold legally in the market. It is binding when it is above the market clearing price. Suppose the government decides to impose a price floor at P2. P2 lies above the market clearing price of P* so this price floor is binding. Hence it raises the price to P2, creates a surplus of unsold good, reduces the quantity exchanged and reduces the market efficiency by creating a deadweight loss.

c. A price ceiling is a legal maximum above which a good cannot be sold legally in the market. It is binding when it is below the market clearing price. Suppose the government decides to impose a price ceiling at P1. P1 lies below the market clearing price of P* so this price ceiling is binding and so it is effective. Hence it reduces the price to P1, creates a shortage of good, reduces the quantity exchanged and reduces the market efficiency by creating a deadweight loss.

d. A price ceiling is a legal maximum above which a good cannot be sold legally in the market. It is binding when it is below the market clearing price. Suppose the government decides to impose a price ceiling at P2. P2 lies above the market clearing price of P* so this price ceiling is not binding. Hence this does not affect the market price, quantity and market efficiency.