Price Controls and Quotas Chapter 5 PDF

Price Controls and Quotas Chapter 5 LEARNING OBJECTIVES The impact of price controls and quantity controls on markets Understand and calculate deadweight loss Who benefits and who loses from market interventions The Origin of Government Cheese https://www.npr.org/sections/ money/2019/...

Price Controls and Quotas Chapter 5 LEARNING OBJECTIVES The impact of price controls and quantity controls on markets Understand and calculate deadweight loss Who benefits and who loses from market interventions The Origin of Government Cheese https://www.npr.org/sections/ money/2019/06/11/729967699 /video-the-origin-of- government- cheese?__s=pouzskzdqonb5m9 mnbez&jwsource=cl What sort of price control was did the U.S. government implement by buying cheese? a) Price ceiling b) Price floor Who benefits from the U.S. government buying cheese? (set aside the free gov. cheese) a) Farmers b) Cheese producers c) Consumers Why might this program be inefficient? Key Vocab Price controls: restriction on how high or low a price can be – Price ceiling: maximum price – Price floor: minimum price Quantity controls = quotas: restriction on how much a company can sell Efficiency: no remaining opportunities to make someone better off w/o making someone worse off (nothing left on the table) PRICE PRICE CEILINGS FLOORS Þ Ý SLIDE 8 PRICE CEILINGS Empty shelves in a privately owned pharmacy where toilet paper, laundry detergent and sanitary pads should be (Meridith Kohut) A line of several hundred shoppers wait to purchase toilet paper at a state-owned Bicentenario grocery store (Meridith Kohut) SIDE EFFECTS OF PRICE CEILINGS Inefficiently low quantity Inefficient allocation to customers Wasted resources Inefficiently low quality Black markets THE EFFECTS OF A PRICE CEILING Monthly rent (per apartment) S $1,400 1,200 E 1,000 Price A B ceiling 800 Housing shortage of 400,000 600 apartments D caused by price ceiling 0 1.6 1.8 2.0 2.2 2.4 Quantity of apartments (millions) What would likely be a direct effect of rent controls? a) Poorer quality rental housing b) An increase in rental housing built for the poor c) More conversions of apartments to condominiums d) Long waiting lists for rent-controlled housing. e) All are direct effects Rent control: “the best way to destroy a city, other than bombing.” - Assar Lindbeck Binding vs. non-binding Binding: the control make a difference A $50 minimum wage is binding Allowing car manufacturers to sell only 1m cars/yr is binding Capping college tuition at $5k/yr is binding Non-binding: the controls don’t’ make a difference A $2 minimum wage is non-binding Allowing car manufacturers to sell only 100m cars/yr is non- binding Capping college tuition at $5m/yr is non-binding  BINDING, OR EFFECTIVE, PRICE CEILINGS Monthly rent (per apartment) S $1,400 Nonbinding price ceiling 1,200 E 1,000 A B 800 Binding, or effective, price ceiling 600 D 0 1.6 1.8 2.0 2.2 2.4 Quantity of apartments (millions) WINNERS AND LOSERS FROM RENT CONTROL Monthly rent (a) Before rent control Monthly rent (b) After rent control (per (per apartment) apartment) Consumer surplus Consumer S Consumer surplus S surplus transferred from $1,400 $1,400 producers 1,200 1,200 Price E E ceiling 1,000 1,000 800 800 600 600 Producer Producer Deadweight surplus D surplus loss D 0 1.6 1.8 2.0 2.2 2.4 0 1.6 1.8 2.0 2.2 2.4 Quantity of apartments (millions) Quantity of apartments (millions) Producers lose; some lucky renters gain; and some unlucky but willing renters don’t get a place at all. EFFECTS OF PRICE CEILINGS Shortages (inefficiently low quantity) Inefficient allocation - Consumers who value a good the most might not get it. Inefficiently low quality Wasted resources: bribery, lines, etc. BLACK MARKETS In a black market, goods or services are bought and sold illegally—either because they are prohibited or because the equilibrium price is illegal. “Those are bachaqueros,” said a new friend here, referring to the food scalpers by their local name. We were watching a line form in front of a grocery store. It’s a common sight in Caracas to see hundreds of people — both resellers and residents — waiting for hours outside a shop to get something basic, like a bag of coffee. A bachaco is a little red ant that cuts and carries away leaves. Venezuelans turned the word into the name of a reseller, and then flipped it into its own verb, bachaquear… But the prices! On the day we visited, the subsidized government price for a bag of black beans was 50 bolívars, about 6 cents. At the stands here, it was 700 bolívars, almost a dollar. Neither price would be high in the United States, but it’s a different matter here. Teachers and government workers, for example, earn a minimum wage of just under 10,000 bolívars a month. It’s unlikely these black market beans will be on their menu anytime soon. -- Nicholas Casey, The New York Times, January 18, 2016 THE MARKET FOR BUTTER IN THE ABSENCE OF GOVERNMENT CONTROLS Price of butter (per pound) S $1.40 Quantity of butter 1.30 (millions of pounds) Price of butter Quantity Quantity 1.20 (per pound) demanded supplied 1.10 $1.40 8.0 14.0 E $1.30 8.5 13.0 1.00 $1.20 9.0 12.0 0.90 $1.10 9.5 11.0 0.80 $1.00 10.0 10.0 $0.90 10.5 9.0 0.70 $0.80 11.0 8.0 0.60 $0.70 11.5 7.0 D $0.60 12.0 6.0 0 6 7 8 9 10 11 12 13 14 Quantity of butter (millions of pounds) BINDING, OR EFFECTIVE, PRICE FLOORS Price of butter (per pound) S $1.40 Binding, or effective, price floor 1.20 A B E 1.00 0.80 Nonbinding price floor 0.60 D 0 6 8 9 10 12 14 Quantity of butter (millions of pounds) HOW PRICE FLOORS CAUSE INEFFICIENCY Price floors cause predictable side effects: – Deadweight loss from inefficiently low quantity demanded – Inefficient allocation of sales among sellers – Wasted resources – Inefficiently high quality – Temptation to break the law by selling below the legal price THE EFFECTS OF A PRICE FLOOR Price of butter (per pound) Butter surplus of 3 S $1.40 million pounds caused by price floor 1.20 A B E Price floor 1.00 0.80 0.60 D 0 6 8 9 10 12 14 Quantity of butter (millions of pounds) Any recommendations re: restaurants in Stowe? Quotas Fix the amount that can be bought and sold. Government sets a quota limit and issues licenses – a right to supply the good Difference between the demand and supply price at the limit is the quota rent If you can buy and sell licenses, quota rent = market price of the license QUOTAS IN THE NYC TAXI MARKET NYC issues a limited number of medallions Taxis must have a valid medallion to operate Uber/Lyft operate without medallions March 2017: Medallion sold for 241k EFFECT OF A QUOTA ON THE MARKET FOR TAXI RIDES Fare Quantity of rides (per ride) (millions per year) Fare Quantity Quantity (per ride) demanded supplied S $7.00 $7.00 6 14 6.50 $6.50 7 13 A 6.00 $6.00 8 12 5.50 E $5.50 9 11 5.00 $5.00 10 10 4.50 $4.50 11 9 4.00 $4.00 12 8 B 3.50 $3.50 13 7 3.00 D $3.00 14 6 Quota 0 6 7 8 9 10 11 12 13 14 Quantity of rides (millions per year) THE MARKET FOR TAXI RIDES IN THE ABSENCE OF GOVERNMENT CONTROLS Quantity of rides Fare (per ride) (millions per year) Fare Quantity Quantity (per ride) demanded supplied S $7.00 $7.00 6 14 6.50 $6.50 7 13 $6.00 8 12 6.00 $5.50 9 11 5.50 E $5.00 10 10 5.00 $4.50 11 9 4.50 $4.00 12 8 4.00 $3.50 13 7 3.50 $3.00 14 6 3.00 D 0 6 7 8 9 10 11 12 13 14 Quantity of rides (millions per year) Quotas essentially “flip” the price control problem Floors/Ceilings: How many rides will passengers take if price is $5? Quotas: At what price will consumers want to buy 10 million rides per year? That price is the demand price Floors/Ceilings: How many rides will drivers offer if price is $5? Quotas: At what price will drivers want to supply 10 million rides per year? That price is the supply price Quota rents Quota rents are the gap between demand price and supply price We’ve created two markets – market for the taxi ride and market for the medallion. How much should Ali rent his medallion for? Let’s assume 1 ride per day (simplicity) I’m Ali. I have a medallion, I’m Jean. I don’t have a but I don’t want to drive medallion. I want to drive my today (I stubbed my toe) cab today! Quota rents If Jean has a medallion, she can make $6 per day. Jean will only rent if she can make at least $4 per day à Ali cannot charge more than $2 or she won’t rent it If Jean offers less than $2, Ali could find another driver w/o a medallion who would pay (up to $2). How much should Ali rent his medallion for? $2 = quota rent! I’m Ali. I have a medallion, I’m Jean. I don’t have a but I don’t want to drive medallion. I want to drive my today (I stubbed my toe) cab today! Quota rents What if Ali doesn’t rent his medallion? $2 = foregone income (opportunity cost) I’m Ali. I have a medallion, See ya. and my toe has healed! Quota rents Quota rents are the gap between demand price and supply price We’ve created two markets – market for the taxi ride and market for the medallion. Ali is in both markets: - He makes $4/day from driving a taxi - He makes $2/day from renting the medallion I’m Ali. I have a medallion, Sometimes he rents it to himself. but I don’t want to drive today (I stubbed my toe) a. In the absence of government restrictions, what are the equilibrium price and quantity? b. What is the demand price at which consumers wish to purchase 80,000 pounds of lobsters? c. What is the supply price at which suppliers are willing to supply 80,000 pounds of lobsters? d. What is the quota rent per pound of lobster when 80,000 pounds are sold? $5.00 What is total surplus at equilibrium? a) $10.00 b) $12.50 c) $25.00 d) $50.00 With a price ceiling of $3, how many will be sold? a) 0 b) 3 c) 5 d) 7 What is total surplus with a price ceiling of $3? a) $4.50 b) $12.50 c) $16.50 d) $21.00 e) $25.00 What is total surplus with a price floor of $8? a) $6.00 b) $14.00 c) $16.00 d) $21.00 e) $25.00 What is total surplus with a quota of 3? a) $4.50 b) $9.00 c) $16.00 d) $21.00 e) $25.00 What is total surplus with quota of 3? a) $4.50 b) $9.00 c) $16.00 d) $21.00 e) $25.00 ARE MINIMUM WAGES PRICE CEILINGS OR FLOORS? a) Price ceilings b) Price floors 47 Minimum wages affected by policy changes and inflation What would be a good minimum wage for VT? a) No minimum wage (assume possible) b) Federal minimum wage ($7.25/hr) c) Between $7.25 and $12.55 d) Current VT min wage ($12.55) e) More than $12.55/hour In 2022, VT minimum wage increased from 11.75 to 12.55 per hour 49 Minimum wages, continued Noah Smith -Ahbijit Dube, ”Impacts of minimum wages: Review of the international evidence” Noah Smith What is 60% of the median wage? “The median weekly earnings of U.S. workers currently stands at around $994, so assuming a 40-hour workweek that’s about $24.85/hour. 60% of that is about $14.91, meaning that $15 is right around the maximum safe level.” -- Noah Smith Noah Smith Median = -0.116 – A 10% increase in minimum wages associated with a 1.2% decease in employment  Median = -0.162 – A 10% increase in minimum wages associated with a 1.6% decease in employment Young = ages 16-24 Why so many differences? - Do some firms have monopsony power? - How competitive is the rest of your labor market? - What groups of workers are you looking at? Card and Krueger (1994) Is the minimum wage our only tool? No. But, for many workers it (effectively) is EITC: 40% wage top-up for adults with children Basic income/negative income tax. Popular in 70s w/ Nixon, across both parties Adults must be ages 25-65 -The Washington Post, 2019 Why do credit card companies charge high interest rates? Is a credit card interest rate cap an example of a price ceiling or price floor? a) Price ceiling b) Price floor What would the impact of this type of cap be? Do you think a 15% credit card rate cap will make it easier or harder for low-income Americans to obtain a credit card? a) Easier b) Harder c) Will not change RECAP Price floors Price ceilings Deadweight loss from inefficiently Deadweight loss low quantity supplied Inefficiently low quantity demanded Inefficient allocation of sales among Inefficient allocation to customers sellers Wasted resources Wasted resources Inefficiently low quality Inefficiently high quality Black markets Temptation to break the law by selling below the legal price People will still try to maximize their own benefits!