Transcript Price Floors and Ceilings

Government Intervention in the Marketplace:
Price Floors and
Ceilings
We already know that markets
tend to move towards equilibrium
naturally, but sometimes this can
create problems in the realworld...
S
Price
Think about apartments in Manhattan...
So, let’s say a studio apt. in Manhattan costs
roughly $4000 a month (true!).
At this price, let’s pretend that 25,000 apartments
are rented each month.
$4000
D
Why? Because it’s New York, that’s why.
Looking at the graph to the right, we get a clear
sense of supply, demand and equilibrium based
on our scenario. We also see that the market is
“happy.”
The problem is that $4000 is way more than a lot
of people can pay and we need people to live
there and work there...
25,000
So how can we
resolve this issue?
Orale, I know, huh? I need a house,
ay.
Quantity
Let’s try “rent control” in NYC:
First off, what is rent control?
A government-imposed mandate on the maximum price that
may be charged for rent in certain cities.
Why did we create it?
It was introduced in the 1940s to combat inflation but today
is used to help lower income households live in areas that
they otherwise could not.
It’s estimated that an additional 1.2
million people commute to Manhattan
everyday to work, but they don’t live
there.
It’s also estimated that each
additional square foot of an
apartment in Manhattan adds
appx. $48.33 to your monthly
rent.
In economics, we call rent control a “price ceiling”
A price ceiling is a maximum price legally charged for a good or service.
We need to look at how much producers will supply
at this price and how much consumers will demand
at this price.
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Price
Let’s pretend the government comes in and says
that $4000 is too high, so they “set” the price of rent
at $2000 a month.
$4000
$2000
Because producers are making less money, they
will not provide as many apartments.
25,000
15,000
Quantity
35,000
{
Because consumers are getting cheaper
apartments, they want more of them.
D
When your demand is higher than your supply
(which always occurs with a price ceiling), you have
a shortage of goods.
In this scenario a shortage of
20,000 apartments occurs.
Are price ceilings good ideas?
If 35,000 people want apartments, but there are only 15,000
available, thats’ going to create issue with who gets one...
so how do people decide?
Waiting lists? Bribery? Discrimination? Luck?
Rent-controlled apartments tend to be run-down because
landlords are trying to make up for the lost profits taken by the
rent-control. Residents also have to wait long periods of time for
even routine maintenance to occur.
What about attracting people? Landlords don’t have to do this because people are
always lining up for a rent-controlled apartment; there’s no incentive to work hard making
things attractive.
Even still, you are getting an apartment in Manhattan for half price
So, what other government interventions are there?
Let me ask you: Do you think that minimum wage is a
fair amount of money to get paid for working an hourly
job?
I think minimum wage is too high (yeah, I said it).
Why? It’s simple, let’s pretend that minimum wage didn’t exist.
Let’s also pretend that you are looking for a job and when you find
one at McDowell’s (see right), there are also two other people that
want that same job.
I would bet your boss would put you in a bidding war with the
others based on how much you are willing to work for, hourly.
Ultimately, the wage would get so low (less than $1) that two of
the three people applying would leave. So do you think I’m right?
My logic is sound, but it doesn’t make me “right.”
For obvious reasons, this would be a terrible scenario
Thus, the government imposes a “price floor” that
forces wages higher.
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Price
We know from our little situation that the equilibrium price of
labor should actually be around $1
$5
$1
A price floor is a minimum price that must be paid
for a good or service.
More people want to work (supply) when they get paid more,
but fewer companies are hiring (demand).
When your supply is higher than your demand (which always occurs
with a price floor), you have a surplus of goods.
50,000
30,000
75,000
Quantity
{
Now, when we look at where the price meets supply and
where it meets demand, we see a different issue.
D
In this scenario a surplus of
45,000 workers occurs.
Are price floors good ideas?
If a lot of people are looking for jobs, but there are not very many available,
there is going to be a larger amount of unemployment.
Employers also have a ton of choice in whom they pick to work which makes
it harder for unskilled workers.
Remember, minimum wage is not calculated on
poverty guidelines and is often so low that people
who work 40 hours a week at this rate, do not
make enough to support themselves.
But then again, you are getting paid more for each hour you work if you earn minimum
wage.
Price
CEILINGs
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Price
Price
So, what do I need to remember?
Price FLOORs
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$5
$1
$4000
$2000
D
D
25,000
15,000
Quantity
35,000
Prevents prices from getting too high (like
hitting a ceiling).
Always leads to a shortage.
50,000
30,000
75,000
Quantity
Prevents prices from getting too low (like
hitting a floor).
Always leads to a surplus.