ECO202 Ch 4: Economic Efficiency, Govt Price Setting, and Taxes

Prolonged agricultural surpluses can arise if governments:

-set the price above equilibrium **Farmers will respond in the same way any business will to prices that enable above normal profits. They will produce more indefinitely. In a competitive market that was allowed to function without any market frictions the price will move lower and the surplus would be eliminated.

Price controls that put a price ceiling on goods and services create __________.

-shortages **A price ceiling caps a product's price below the market determined equilibrium level. This creates a point where the quantity that suppliers are willing to supply is below the quantity demanded and therefore creates a shortage. A price floor creates a surplus since the floor is above the market determined equilibrium price. At this point the quantity supplied exceeds the quantity demanded and therefore creates a surplus. The equilibrium price is determined by the interaction of supply and demand in a free market.

If Damarius is willing to pay $100 for his economics textbook but instead only has to pay $80, his consumer surplus is:

-$20 **The difference between the highest price a consumer is willing to pay for a good or service, and the price they actually pay is called consumer surplus. So in this case, Consumer surplus = $100 − $80 = $20.

Which of the following terms corresponds to a market where buying and selling take place at prices that violate government price regulations?

-Black market **Black markets are markets where buying and selling take place at prices that violate government price regulations. Black markets emerge when markets are restricted because someone is always willing to pay a higher price than the arbitrary government determined price. Sellers will emerge to satisfy that demand. This type of illegal market is called the black market and only exists because competitive markets are not allowed to operate. In a competitive market the unconstrained interaction of supply and demand determine the price. Conspiracy markets are a fictional construct.

Which of these graphs best describes a minimum price imposed for milk?

-Graph A **Graph A best describes a minimum price imposed for milk. As you can see in Graph A the minimum level (P1) is a price that is higher than the current market determined equilibrium price. For a price floor to be effective it must be higher than the market determined price or it is irrelevant. Graph B represents a price ceiling where the price of some asset cannot exceed P1. Graphs C and D are quantity controls and not price controls.

__________ is the difference between what a producer receives for a good or service and the lowest amount they would accept for that good or service.

-Producer surplus **Producer surplus is the difference between what a producer receives for a good or service and the lowest amount they would accept for that good or service. For example, if Company XYZ sold a widget for $40 but they would have accepted $35 for the same widget, their producer surplus is $5. The difference between the highest price a consumer is willing to pay for a good or service, and the price they actually pay is called consumer surplus. For example, if Susan was willing to pay $50 for a pair of shoes and she bought them on sale for $35, then her consumer surplus is the difference of $15. Marginal benefit refers to the benefit you get from consuming the next unit of a good or service.

According to the graph, what is the impact of a quantity restriction (known as a taxi medallion) on the number of taxis allowed to service this market?

-There is an excess demand for taxi service and a higher price. **As you can see the imposition of a quantity restriction on taxis, via the use of licensure known as a taxi medallion, functions to create an excess demand. There are 10,000 miles of service demanded and the system only has the capacity to deliver 8,000 miles of service. The price also moves higher from the free market equilibrium price of $3.00 per mile to $3.30 per mile.

Which of the following statements about a shortage is correct?

-There is no shortage of most scarce goods. **Scarcity exists as long as the resources used to produce one good could be used to produce another good. However, in a free market there will not be a shortage of scarce goods because the price will adjust until the quantity demanded is exactly equal to the quantity supplied. A shortage will only exist where price controls are imposed and create a situation where there are more units demanded at the government established price than there are units supplied at that price.

The sugar quota in the United States creates winners and losers. The winners are __________ and the losers are __________.

-U.S. sugar producers, U.S. sugar consumers **U.S. sugar producers benefit because the quota restricts the supply of sugar in the U.S. and drives prices higher. U.S. consumers lose because they have to pay higher prices for the sugar they consume. Foreign sugar consumers should have lower prices since more of the global supply remains in their market. However, foreign producers will lose since they can't access the large U.S. market.

According to the graph how much domestic sugar will be supplied at the $0.12 price under free trade?

-Zero pounds **According to the graph, there will be zero pounds of domestic sugar supplied at the $0.12 price under free trade. As you can see domestic suppliers are unwilling to supply any output at a price of $0.12 per pound. They will not begin to produce at all until the price reaches $0.26 per pound.

According to this graph the existence of a minimum wage in the market for low-skilled workers results in:

-an increase in wages but lower employment **You can see in the graph that the wage moves from (W1) to the higher floor (Minimum Wage). However, at the same time, the quantity demanded for workers at the Minimum Wage price is now L2 which indicates that some workers lost jobs as a result of the imposition of a minimum wage.

For markets to generate the greatest benefit and function in the most efficient manner they must:

-be perfectly competitive **Perfect competition ensures that markets function with no intervention and that prices will be determined by the interaction of supply and demand. A market that functions in this manner generates the maximum amount of consumer surplus.

The difference between the highest price a consumer is willing to pay for a good or service, and the price they actually pay is called:

-consumer surplus. **For example, if Susan was willing to pay $50 for a pair of shoes and she bought them on sale for $35, then her consumer surplus is the difference of $15. Producer surplus is the difference between what a producer receives for a product and the lowest amount they would accept for that product. Marginal benefit refers to the benefit you get from consuming the next unit of a good or service.

Rent controls:

-make tenants less mobile **When governments set the maximum amount that can be charged for rent it creates inefficiencies. In most cases where there are rent controls the rents can only be adjusted when the tenant vacates the property. Rents can be increased at that time. Because rents are fixed for the same renter it creates a situation where moving can be costly so it decreases tenant mobility. Rent controls are a price ceiling and increase litigation when tenants move out and rent their apartment to someone else at the market rate.

If an effective minimum wage is imposed, then:

-more workers will be unable to find jobs **A minimum wage is a price floor and is therefore imposed above the market determined equilibrium price for low skill labor. At that point the quantity supplied of labor will exceed the quantity demanded. The quantity demanded will also be less at this point than at the previous equilibrium point so more workers will lose jobs and unemployment rates will increase.

In response to information regarding the salaries of executives at firms receiving bailout funds in the United States, some people called for a limit on the salaries paid to executives. Such a limit on the compensation executives can receive is an example of a:

-price ceiling **A legally determined maximum that sellers may charge is known as a price ceiling. Rent controls in New York City are another example of a price ceiling since landlords are prohibited from increasing rents beyond some level. A legally determined minimum price that sellers must receive is known as a price floor. Sometimes governments intervene in markets and mandate price floors for certain goods. The minimum wage laws are a good example of a price floor. Government mandates the minimum amount that must be paid to workers. A black market typically emerges when governments impose market restrictions. Black markets are markets where the prices for goods and services are in violation of government regulations.

A legally determined maximum that sellers may charge is known as a:

-price ceiling **A price ceiling is the opposite of a price floor since a ceiling is a government imposed maximum price that can be charged for some product or service. Rent controls in New York City are an example of a price ceiling since landlords are prohibited from increasing rents beyond some level. A legally determined minimum price that sellers must receive is known as a price floor. Sometimes governments intervene in markets and mandate price floors for certain goods. The minimum wage laws are a good example of a price floor. Government mandates the minimum amount that must be paid to workers. Marginal benefit is the additional benefit you get from consuming the next unit of something.

Black markets may arise if:

-price ceilings exist **Price ceilings keep the price suppressed to below-equilibrium levels and create shortages. The profit motive will ensure that sellers emerge to sell the products at prices higher than the government imposed ceiling. A market established equilibrium price will clear the market so there is no need for a black market to arise. Government intervention creates black markets instead of keeping them from forming.

Some people believe there should be a legally determined minimum price for farm products such as milk. A limit on the price of milk would be an example of:

-price floor **Sometimes governments intervene in markets and mandate price floors for certain goods. The minimum wage laws are a good example of a price floor. Government mandates the minimum amount that must be paid to workers. A legally determined maximum that sellers may charge is known as a price ceiling. A price ceiling is the opposite of a price floor since a ceiling is a government imposed maximum price that can be charged for some product or service. Marginal benefit is the additional benefit you get from consuming the next unit of something.

A legally determined minimum price that sellers must receive is known as a:

-price floor **Sometimes governments intervene in markets and mandate price floors for certain goods. The minimum wage laws are a good example of a price floor. Government mandates the minimum amount that must be paid to workers. A price ceiling is the opposite of a price floor since a ceiling is a government imposed maximum price that can be charged for some product or service. Rent controls in New York City are an example of a price ceiling since landlords are prohibited from increasing rents beyond some level. Marginal benefit is the additional benefit you get from consuming the next unit of something.

Prolonged shortages arise if:

-prices are not allowed to rise to equilibrium **A shortage exists when a price ceiling is imposed in a market. The reason ceilings are sometimes imposed is to keep the price of a product suppressed. However, ceilings end up generating black markets and are an inefficient mechanism that rarely works to keep prices down, but instead create shortages. If buyers are allowed to compete for goods the price will rise to an equilibrium price where quantity demanded exactly equals quantity supplied.

A numerical limit on the quantity of a good that can be imported is a:

-quota **Quotas restrict imports on some products in order to drive domestic prices higher and protect certain industries by restricting the overall supply. Tariffs are taxes imposed on certain imports to protect domestic products and producers. A voluntary export restraint is a negotiated agreement between two countries that limits the quantity of a specific product that may be imported into a country.

Price performs a(n) __________ function. Inputs or outputs go to the __________ bidders if people are free to exchange voluntarily in the markets without government intervention or other market friction.

-rationing, highest **A free market allows products to be offered that will go the buyers offering the highest price or bid. Prices will increase until an equilibrium price is reached where quantity demanded equals quantity supplied.

: According to this graph the existence of a minimum wage in the market for low-skilled workers results in a:

-surplus of workers **As you can see in the graph the supply of workers willing to work for this wage is L3, which is larger than the quantity demanded of workers at this price (L2). The surplus is therefore the difference or L3 - L2 = surplus.

Price controls that put a price floor on goods and services create __________.

-surpluses **A price floor creates a surplus since the floor is above the market determined equilibrium price. At this point the quantity supplied exceeds the quantity demanded and therefore creates a surplus. Price controls that put a price ceiling on goods and services create shortages. A price ceiling caps a product's price below the market determined equilibrium level. This creates a point where the quantity that suppliers are willing to supply is below the quantity demanded and therefore creates a shortage. The equilibrium price is determined by the interaction of supply and demand in a free market.