Bellringer

• • • • • What should happen to the equilibrium price of whoopee cushions when the price of the rubber necessary to make the cushions declines?

A) The equilibrium price will rise.

B) The equilibrium price will fall.

C) The equilibrium price will stay the same.

D) The price of substitute products will rise.

Price Ceilings and Price Floors

Let’s Review!

A forest fire occurs that burns millions of acres of timber. What happens to the market for ballpoint pens?

Pulp Wood Paper Pulp Wood Your market is: Ballpoint pens Ballpoint Pens

The economy moves out of the recession into a boom period. What happens to the market for secondhand clothing?

Your market is: Secondhand Clothing

Are taxicab rides in New York City expensive or inexpensive in relative terms?

• •

Real World Example (Oct. 2011)

Demand outstrips supply I: Two New York taxi medallions – aluminum plates that grant the right to operate a yellow cab – have changed hands for a record-high $1 million apiece, the New York Times reports. – Since the city of New York issued its first batch of medallions in 1937 at $10 each ($157.50 in current dollars), their value has continued to grow rapidly, while the number of medallions available for purchase has been tightly controlled.

– The city has more than 8 million residents and just 13,237 taxi medallions.

Demand outstrips supply II: The city of Atlanta, population 420,000, limits the number of taxi medallions to 1,600; there were 1,558 assigned in 2010 to 23 licensed taxicab companies, according to taxi litigation specialists Taxi Risk. – Taxi drivers must be affiliated with a taxi company licensed by the city; to be licensed, a company must own or lease at least 25 medallions, known as Certificates of Public Necessity and Convenience. – The published price for a medallion is $6,000, but historically high demand causes the city to put available medallions through a bid process. – Taxi Risk puts the average published price paid in 2010 for a medallion at $36,958; the highest was $60,000

Why do Chicago garbage workers make $80,000 a year?

Why do college professors make over $100,000 a year?

Price Ceiling Defined

• • A legal maximum on the price at which a good can be sold – Rent Control – Gasoline in the 1970s Seems like it would be good for consumers, but why is it not?

P S Pc are set BELOW the equilibrium price.

$1,600 P D Q Pc is the highest price that can be charged in the market. Q Fair market price of apartments in NYC is $1,600 NYC has rent controls which are price ceilings. Where do you think price CEILINGS are set? BELOW or ABOVE the market price?

P S $1,600 $1,200 P Q Rent controls are a price set by the government to keep prices of apartments down. In NYC the government sets the HIGHEST PRICE that can be charged for a one-bedroom apartments at $1,200. Landlords cannot charge above this price.

D Q Pc

P $1,600 $1,200 P Qs Q

<

Q Qd Looking at the graph, what occurs when the price is set BELOW the equilibrium price when a PRICE CEILING is set?

The Quantity Demanded > the Quantity Supplied S Anytime Qd > Qs there is a SHORTAGE in the market.

Pc D Q

This is the number of apartments landlords are willing to supply at this price (Qs).

This is the number of people willing to rent apartments at this price (Qd).

S P $1,600 $1,200 P Qs This is a SHORTAGE.

< Q Q Qd D Q Pc

P S $1,600 P $1,200 Pc Qs < Q Q Qd D Q _________ is looking for an apartment in NYC. Are they going to find one?

PRICE CEILING—THE HIGHEST PRICE THE SELLER CAN SELL THE PRODUCT.

P $1,600 $1,200 P S Qs < Q Q Qd D Q Pc

Rent Control in the Short Run and in the Long Run (a) Rent Control in the Short Run (supply and demand are inelastic) (b) Rent Control in the Long Run (supply and demand are elastic) Rental Price of Apartment Rental Price of Apartment Supply Supply 0 Controlled rent Demand Shortage Quantity of Apartments 0 Shortage Controlled rent Demand Quantity of Apartments 27

Garth Brooks Concert

• • • When Garth Brooks came to Atlanta many years ago, he wanted to make it a tribute to his fans and make sure they could afford the concert.

Economists say the going rate for a Garth Brooks ticket in ATL is $124 per ticket. Thought this was too expensive so he said no one could charge more than $17 per ticket.

Draw a S & D graph showing what will happen.

Price Floor Defined

• A legal minimum on the price at which a good can be sold – Agricultural products – Minimum wage

San Fran.

$69 Los Angeles To fly from Los Angeles to San Francisco it cost In 1975 To fly from Chicago to Minneapolis it cost Minneapolis $169 Chicago WHY?

San Fran.

In 1975 This is INTERSTATE travel.

Minneapolis This is INTRASTATE travel. (inside the state) $169 Chicago $69 Los Angeles

P S Pf P D Q Q Interstate travel was regulated by the Civil Aeronautics Board. It set the prices for flights traveling across state lines. It set a PRICE FLOOR.

Where is a PRICE FLOOR set? Above or BELOW the equilibrium price? ABOVE.

P S Pf P D Q Q Why is it called a price FLOOR if it is set ABOVE the equilibrium/market price?

Because it is the LOWEST price that can be charged by law.

$169 P $69 P S Pf $169 D $69 Q Q Which route is the market price and which route is the PRICE FLOOR? The market price is $69, the price charged between Los Angeles and San Francisco. The PRICE FLOOR is $169, the price charged between Chicago and Minneapolis.

$69 Whenever there is a PRICE FLOOR the Quantity Supplied is $169 $69 greater than the Quantity Demanded.

P P $169 S Pf Qs D Q

$69 A price floor causes a SURPLUS in the market.

$169 P $69 P $169 Qd of seats < Qs of seats S Qs D Q Pf

$169 P $69 P S Pf D Qs Q

What price did the airlines charge customer flying from Chicago to Minneapolis?

$169

If airlines couldn’t compete by price since they all charged the same price, how did airlines compete?

Service: Best food, bigger seats, prettiest flight attendants.

http://www.1jetsettravel.com/Picts/22Plncbn.jpg

Surplus of seats available because of the price floor.

http://www.transport-pf.or.jp/english/sky/airplane/exploration/img/jal-mesi.jpg

Airlines competed by serving better food.

Prettiest stewardess

But now, since they don’t have to compete as hard for your business…

As deregulation of the airline industry took place in 1978, what happened to the price floor?

P S $169 Pf $69 P Qd Q Qs D Q

As deregulation of the airline industry took place in 1978, what happened to the price floor?

P S $169 Pf $69 P D Qd Q Qs Q

The price floor is eliminated, lowering the price to the market price. This gets rid of the surplus. People get to fly for lower prices, but the airplanes are now more crowded.

S $5 D D 40,000 The Toledo arena holds a maximum of 40,000 people, as indicated in the graph above. Each year the circus holds eight performances, all of which are sold out.

(a) Analyze the effect on each of the following of the addition of a fantastic new death-defying trapeze act that increases the demand for tickets.

(i) price of tickets (ii) quantity of tickets sold

S $5 D 40,000 (b) The city of Toledo institutes an effective price ceiling on tickets. Explain where the price ceiling would be set. Explain the impact of the ceiling on each of the following.

(i) The quantity of tickets demanded (ii) The quantity of tickets supplied

S $5 D 40,000 (c ) Will everyone who attends the circus pay the ceiling price set by the city of Toledo? Why or why not?

S $5 D D 40,000 The Toledo arena holds a maximum of 40,000 people, as indicated in the graph above. Each year the circus holds eight performances, all of which are sold out.

(a) Analyze the effect on each of the following of the addition of a fantastic new death-defying trapeze act that increases the demand for tickets.

(i) price of tickets (ii) quantity of tickets sold

P1 $5 S D1 This new act causes the Demand curve to shift to the right, causing price to go up and quantity to remain the same .

40,000 (a) Analyze the effect on each of the following of the addition of a fantastic new death-defying trapeze act that increases the demand for tickets.

(i) price of tickets (ii) quantity of tickets sold

S $5 Pc D 40,000 (b) The city of Toledo institutes an effective price ceiling on tickets. Explain where the price ceiling would be set. The price ceiling is set below the equilibrium P of $5.

S $5 Pc D 40,000 Qd1 (b) Explain the impact of the ceiling on each of the following.

(i) The quantity of tickets demanded The quantity of tickets demanded increases.

S $5 Pc D 40,000 Qd1 (b) Explain the impact of the ceiling on each of the following.

(ii) The quantity of tickets supplied The quantity of tickets supplied remains the same.

S $5 Pc D 40,000 Qd1 (c ) Will everyone who attends the circus pay the ceiling price set by the city of Toledo? Why or why not?

No, a secondary market (black market) occurs.

Scalpers will get higher prices because Qd >Qs.

A C T I V E L E A R N I N G Price controls 1 Determine effects of: A. $90 price ceiling B.

$90 price floor

C.

$120 price floor 130 120 110 100 90 80 70 60 50 40 0 50 60 The market for hotel rooms

D S

A C T I V E L E A R N I N G A. $90 price ceiling 1 The price falls to $90. Buyers demand 120 rooms, sellers supply 90, leaving a shortage. 130 120 110 100 90 80

Price ceiling

70 60 50 40 0 50 60 The market for hotel rooms shortage = 30

D S

A C T I V E L E A R N I N G B. $90 price floor 1 Eq’m price is above the floor, so floor is not binding. P = $100, Q = 100 rooms. 130 120 110 100 90 80

Price floor

70 60 50 40 0 50 60 The market for hotel rooms

D S

A C T I V E L E A R N I N G C. $120 price floor 1 The price rises to $120. Buyers demand 60 rooms, sellers supply 120, causing a surplus. 130 120 110 100 90 80 70 60 50 40 0 50 60 The market for hotel rooms surplus = 60

Price floor

D S

Practice Question

1. Assume that the market for doodads has an equilibrium price of $10. At this price suppliers produce 1,000 units. A. Draw a supply and demand graph illustrating the market doodads. Indicate equilibrium price and quantity on your graph.

B. The government imposes a maximum price of $12 on the price of doodads. Explain the effect on the equilibrium price that this price ceiling will have?

C. Now assume that the government imposes a minimum price of $12 on the price of doodads. Illustrate this price control on your graph.

D. Determine whether a shortage or surplus is created. Indicate the quantity of this shortage or surplus.

Practice Question

2. Assume that there is a perfectly inelastic supply of krypton power and that 1,000,000 units of power are produced. The equilibrium price of a unit of kryptonpower is $4.

A. Draw a graph of the market for krypton power. Illustrate the equilibrium price and quantity on your graph.

B. Assume that an effective price ceiling is established at a price of $3. Illustrate this price ceiling on the graph.

C. Explain the affect on output created by the price control.