Question

1) To be binding, where does a Price Floor need to placed relative to the market price?

a) Above? B) Below?

2) Do binding price floors cause shortages or surpluses? Explain why.

3) To be binding, where does a Price Ceiling need to placed relative to the market price?

a) Above

b) Below

Answer 1

Ans 1.) Above

Binding price means that a price is able to have impact on the market equilibrium outcome.

A price floor is the minimum price at which a good can be sold.If it is greater than the equilibrium price, then the quantity demanded is less than the quantity supplied as can be seen in the diagram below.Therefore, a price floor is binding when it is above the market price.

Ans 2.) Binding price floors cause surplus as the quantity supplied is greater than the quantity demanded as can be seen in the diagram above.

Ans 3.) Below

Price ceiling is the maximum price at which a good can be sold.To be binding, the price ceiling has to be less than the market price as at that price level quantity demanded would be greater than the quantity supplied.