ECON 102 Chapter 4 (Economic Efficiency, Government Price Setting, and Taxes)

Price ceiling

- Consumers sometimes succeed in having the government impose this. - A legally determined maximum price that sellers may charge. Ex. Rent control

When the government imposes price floors or price ceilings, three important results occur:

1. Some people win. 2. Some people lose. 3. There is a loss of economic efficiency.

Briefly explain whether you agree with the following statement: "If at the current quantity marginal benefit is greater than marginal cost, there will be deadweight loss in the market. However, there is no deadweight loss when marginal cost is greater than marginal benefit."

The statement is incorrect. If marginal cost is greater than marginal benefit (just as when marginal benefit is greater than marginal cost), there will be deadweight loss.

Economic surplus

The sum of consumer surplus and producer surplus.

Country Talmar produces 100,000 cars during a particular year. The market price of cars in Talmar is $5,000. In a recent meeting of the Economic Council, an economist, Carl Anderson claimed the nation's production of cars was inefficiently high because industry seemed to have positive inventory every year. Another economist, Tara Henderson, felt that the production was inefficiently low because there is a huge segment of the population that does not own cars.

There is a deadweight loss at the given production level.

Economic surplus is the sum of consumer surplus and producer surplus.

True

According to a news story, Pennsylvania's liquor tax is "paid by the seller - the restaurant or bar owner - when the seller buys liquor from state-run wine and spirit stores." The way in which liquor taxes in Pennsylvania are collected influences the price of a glass of wine purchased by a consumer in a restaurant by

decreasing supply and increasing the price of wine and other liquor drinks in stores.

Discussions of the economic results of rent control and of federal farm programs would be considered _____________ analysis, and discussions of whether rent control and the farm programs are good and bad policies would he considered _______________ analysis.

positive; normative

Tax incidence indicates

the actual division of the burden of a tax.

Marginal benefit is

the additional benefit from consuming one more unit.

Consumer surplus is

the difference between the highest price a consumer is willing to pay and the price the consumer actually pays.

Producer surplus is

the difference between the lowest price a firm would be willing to accept and the price it actually receives.

A student argues: "Economic surplus is greatest at the level of output where the difference between marginal benefit and marginal cost is largest." The statement is false because

the level of output where the difference between marginal benefit and marginal cost is largest will be below the output level needed to have the maximum economic surplus.

Economic surplus is maximized when

the marginal benefit of consumption is equal to the marginal costs of production.

When a competitive market is in equilibrium, what is the economically efficient level of output?

the output level where marginal cost is equal to marginal benefit

Deadweight loss is

the reduction in economic surplus resulting from a market not being in competitive equilibrium.

Price floor

- Firms sometimes succeed in having the government impose this. - A legally determined minimum price that sellers may receive. Ex. In markets for farm products such as milk, the government has been setting price floors that are above the equilibrium market price since the 1930s

When the government imposes price floors or price ceilings, which of the following occurs?

- Some people win. - Some people lose. - There is a loss of economic efficiency. - All of the above occur.

Economic efficiency...

- is a market outcome in which the sum of consumer surplus and producer surplus is at a maximum. - is a market outcome in which the marginal benefit to consumers of the last unit produced is equal to its marginal cost of production. - both a and b.

Economists define economic efficiency in this way

- to help policymakers understand the negative consequences of price floors. - to help policymakers understand the negative consequences of price ceilings. - to illustrate the benefits of a competitive market equilibrium. - to help policymakers understand the negative consequences of taxes. - all of the above.

Demand curve

A curve that shows the relationship between the price of a product and the quantity of the product demanded.

Competitive market equilibrium

A market equilibrium with many buyers and sellers.

Black market

A market in which buying and selling take place at prices that violate government price regulations.

Economic efficiency

A market outcome in which the marginal benefit to consumers of the last unit produced is equal to its marginal cost of production and in which the sum of consumer surplus and producer surplus is at a maximum.

A tax is efficient if it imposes a large excess burden relative to the tax revenue it raises.

False

Consumer surplus and producer surplus measure the total benefit consumers and producers receive from participating in a market.

False

Briefly explain whether you agree with the following statement: "A lower price in a market always increases economic efficiency in that market."

I disagree, because economic efficiency declines if price falls below the market equilibrium.

Why is the demand curve referred to as a marginal benefit curve?

It shows the willingness of consumers to purchase a product at different prices.

Does it matter whether buyers or sellers are legally responsible for paying a tax?

No, the market price to consumers and net proceeds to sellers are the same independent of who pays the tax.

Do the people who are legally required to pay a tax always bear the burden of the​ tax? Briefly explain.

No. Whoever bears the burden of the tax is not affected by who legally is required to pay the tax to the government.

Why do some consumers tend to favor price controls while others tend to oppose​ them?

Price ceilings generate shortages.​ Consequently, the consumers who obtain the product at a lower price​ win, but other consumers will lose because they would like to purchase the product but are unable to because of a shortage.

Tax incidence

The actual division of the burden of a tax between buyers and sellers in a market.

Marginal benefit

The additional benefit to a consumer from consuming one more unit of a good or service.

Marginal cost

The additional cost to a firm of producing one more unit of a good or service.

Consumer surplus

The difference between the highest price a consumer is willing to pay for a good or service and the actual price the consumer pays.

Producer surplus

The difference between the lowest price a firm would be willing to accept for a good or service and the price it actually receives.

Deadweight loss

The reduction in economic surplus resulting from a market not being in competitive equilibrium.

A country that imports a substantial amount of gasoline every year imposed a $1.2 per gallon excise tax on gasoline, to be paid by sellers. The equilibrium price of gasoline prior to the tax was $4 per gallon. Gasoline being a necessary good, its demand curve is steep and the consumers had to bear the bulk of the tax burden. The post-tax price of gasoline went up to $5 per gallon, causing the country's media to claim that it was unfair that people should have to pay so high a price for such an important consumption item. They further believed that such a high tax was inefficient and could not be justified. Which of the following, if true, could support the imposition of the tax even if it is inefficient?

The revenue generated from this tax is being used to develop alternative sources of energy.

Briefly explain whether you agree or disagree with the following statement: "If there is a shortage of a good, it must be scarce, but there is not a shortage of every scarce food."

The statement is correct because every good (except undesirable things) is scarce.

Briefly explain whether you agree with the following statement: "If consumer surplus in a market increases, producer surplus must decrease."

The statement is incorrect. Consumer surplus (and producer surplus) could increase by decreasing deadweight loss.

Positive analysis

analysis concerned with what is.

Normative analysis

analysis concerned with what should be.

On a shopping trip, Melanie decided to buy a light blue coat made from woven fabric. A tag on the cost stated that the price was $79.95. When she brought the coat to the store's sales clerk, Melanie was told that the coat was on sale, and she would pay 20 percent less than the price on the tag. After the discount was applied, Melanie paid $63.96, $15.99 less than the original price. The value of Melanie's consumer surplus from this purchase is

at least $15.99 since this is the difference between the price Melanie is willing to pay for the coat and the actual price she pays, but she could have been willing to pay more than $79.95 for the coat.

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

black market

How does consumer surplus change as the equilibrium price of a good rises of falls? As the price of a good rises, consumer surplus _________________, and as the price of a good falls, consumer surplus _________________.

decreases, increases

If San Francisco were to repeal its rent control law, the prices for short rentals in the city listed on Airbnb and other peer-to-peer sites would likely

fall because more housing units would become available as the average rent increased.

A tax is efficient...

if it imposes a small excess burden relative to the tax revenue it raises.

Black markets may arise

in reaction to binding price ceilings.

How does producer surplus change as the equilibrium price of a good rises or falls? As the price of a good rises, producer surplus ________________, and as the price of a good falls, producer surplus ________________.

increases, decreases