PRICE CONTROLS

1. PRICE CEILINGS:

   1. Established below the market equilibrium price

   2. Price is "administered" by government and is not allowed to rise above the ceiling (at least the official price is not!)

   3. The ceiling results in or perpetuates a shortage (why?)

   4. The ceiling results in additional activity by market participants:

      • Search activity which is costly and which may raise the total "price" above that which would exist on free market

      • Nominally illegal activity by market participants to avoid the price controls, which really represents the free market trying to assert itself. Often leads to additional government controls!

2. PRICE FLOORS (PRICE SUPPORTS)

   1. Established above the market equilibrium price

   2. Price is "administered" by government and is not allowed to fall below the floor

   3. The floor results in or perpetuates a surplus (why?)

   4. The floor causes the government to spend tax revenues to support the price (thus the term "price support"), and in addition consumers have to pay the higher price caused by the support.

   5. Since demand for commodities is price inelastic, elimination of the price support (floor) by government not only will eliminate the spending of your tax dollars to buy up the surplus that consumers are not willing to buy, but it will also cause consumers to spend less for more output [remember? -- lower price means lower total revenue (= consumer spending) if demand is price-inelastic!]

Class Notes | Clint Johnson |  Economics & Finance | Departments & Majors
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This page was last updated on Friday, July 21, 2006.