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Transcript of Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition Chapter 6...
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Chapter 6
Supply, Demand, and
Government Policies
© 2002 by Nelson, a division of Thomson Canada Limited
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Overview
The Effects of Price ControlsThe Effects of an Excise Tax
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Supply, Demand and Government Policies
In a “free”, unregulated market system, market forces establish equilibrium
prices and exchange quantities.
While equilibrium conditions may be efficient it may be true that not
everyone, i.e. buyer or seller are satisfied.
Hence, market controls!
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Market Price Controls
Are usually enacted when policy-makers believe that the market price is unfair to buyers and sellers.
Result in government policies, i.e. price ceilings and floors.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Price Ceilings & Price Floors
A Price Ceiling – is a legally established maximum price
which a seller can charge or a buyer must pay.
A Price Floor– is a legally established minimum price
which a seller can charge or a buyer must pay.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Price Ceilings
When the government imposes a price ceiling (i.e... a legal maximum on the price at which a good can be sold) two outcomes are possible:1 . The price ceiling is not binding.
2 . The price ceiling is a binding constraint on the market, creating Shortages.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Market Impacts of a Price Ceiling
Supply
Demand
Price
Quantity
EquilibriumPrice
EquilibriumQuantity
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
A Non-Binding Price Ceiling
Supply
Demand
Price
Quantity
PE
QE
PriceCeiling
PC
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
A Binding Price Ceiling
Supply
Demand
Price
Quantity
PE
QE
PriceCeiling
PC
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
A Binding Price Ceiling Creates Shortages.
Supply
Demand
Price
Quantity
PE
QE
PC
QS QD
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
A Binding Price Ceiling Creates Shortages.
Supply
Demand
Price
Quantity
PE
QE
PC
QS QD
Shortage
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Market Impacts of a Price CeilingA Binding Price Ceiling creates. . .
– Shortages (i.e... Demand > Supply)Gasoline shortages of the 1970sHousing shortages with rent controls
– Non-Price Rationing - An alternative mechanism for rationing of the good:Long Lines (first-In-Line, friends etc.)Discrimination criteria set by sellerBlack markets
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Price Floors
When the government imposes a price floor (i.e... a legal minimum on the price at which a good can be sold) two outcomes are possible:1 . The price floor is not binding.
2 . The price floor is a binding constraint on the market, creating Surpluses.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
A Non-Binding Price Floor
Supply
Demand
Price
Quantity
PE
QE
PriceFloor
PF
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
A Binding Price Floor
Supply
Demand
Price
Quantity
PE
QE
PriceFloor
PF
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Market Impacts of a Price Floor
A government-imposed market price floor hinders the forces of supply and demand in moving toward the equilibrium price and quantity.
When the market price hits the floor, it can fall no further and the market price equals the floor price. A binding price floor causes a surplus.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
A Binding Price Floor Creates a Surplus.
Supply
Demand
Price
Quantity
PE
QE
PF
QS QD
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Supply
Demand
Price
Quantity
PE
QE
PF
QS QD
Surplus
A Binding Price Floor Creates a Surplus.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Market Impacts of a Price Floor
A Binding Price Floor creates. . .– Surpluses (i.e. Quantity Supplied >
Quantity Demanded)
– Non-Price Rationing - An alternative mechanism for rationing of the good:Discrimination Criteria
– Examples:Minimum Wage Agricultural Price Supports
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Quick Quiz!
Define “price ceiling” and “price floor”
Give an example of each.
Which leads to a shortage, which a surplus? Why?
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Overview
The Effects of Price ControlsThe Effects of an Excise Tax
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Taxes! Taxes! Taxes!What is the purpose of government-
imposed taxes?– To raise government revenues.
– To restrict production of a product.What is an excise tax?
– A “per-unit” tax that’s independent of the price of the product.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Taxes! Taxes! Taxes!Who pays the tax on a good? The
buyer or the seller?How is the burden of a tax divided
between buyer and seller?When the government levies a tax on a
good, the equilibrium quantity of the good falls. The size of the market for that good shrinks, shifting either the demand or supply curve.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Taxes: Impact
Taxes discourage market activity. The quantity of the good sold is smaller than
without the tax. Buyers and sellers
share the tax burden.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Taxes: Impact From a 50 Cent Tax
S1
$3.00
800
D1
Equilibrium without tax
Quantity
Price
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Taxes: Impact From a 50 Cent Tax
S1
$3.00
800
D1
From the sellers viewpoint, the tax
causes the demand curve to
shift down by 50 cents.
$2.80
600
Price
Quantity
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Taxes: Impact From a 50 Cent Tax
S1
$3.00
800
$3.30
600
The tax increasesthe market price
to the buyer...
$2.80
D1
Quantity
Price
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Taxes: Impact From a 50 Cent Tax
S1
$3.00
800
$3.30
600
The tax increasesthe market price
to the buyer...…in this case theprice rises $.30.
$2.80
D1Price
Quantity
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Taxes: Impact From a 50 Cent Tax
S1
$3.00
800
$3.30
600
The tax decreasesthe return to the
seller as the sellergets $.20 less.
$2.80
D1
Quantity
Price
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Taxes: Impact From a 50 Cent Tax
S1
$3.00
800
$3.30
600
The tax makes boththe buyer and the seller worse off!$2.80
D1
Quantity
Price
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
The Incidence of Tax. . .How is the burden of the tax distributed?
Consider a tax levied on sellers of a good. What are the effects of this tax?
How do effects of the tax levied on the seller compare with those of the effects imposed on the buyer?
Depends on Elasticity of Demand and Elasticity of Supply.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
The Incidence of Tax. . .How is the burden of the tax distributed?
The burden of a tax falls on the side of the market with the smaller price elasticity!
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Elasticity and Taxes
The more inelastic the demand and the more elastic the supply results in the consumer paying more of the tax.
The more elastic the demand and the more inelastic the supply results in the supplier paying more of the tax.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Elasticity and Excise Tax Example:A more inelastic demand and more elastic supply.
Supply
Demand
$2.00
250
Price
Quantity
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Elasticity and Excise Tax
S1
Demand
S2
Specific Tax $.20
$2.00
$2.15
200 250
Price
Quantity
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Elasticity and Excise Tax
S1
Demand
S2
Specific Tax $.20
$2.15
$2.00$1.95
200 250
Producer’s burden of tax
Price
Quantity
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Elasticity and Excise Tax
S1
Demand
S2
Specific Tax $.20
$2.15
$2.00$1.95
200 250
Buyer’s burden of tax
Price
Quantity
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Quick Quiz
Show how a tax on car buyers of $1,000 per car affects the quantity of cars sold and the price of cars.
Show how a similar tax on car sellers affects quantity and price.
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Supply, Demand & GovernmentThe economy is governed by two kinds
of laws:– The laws of supply and demand– The laws enacted by government
Price controls and taxes are common in various markets in the economy:– Price Ceilings– Price Floors– Excise Tax
Principles of Microeconomics & Principles of Macroeconomics: Ch.6 Second Canadian Edition
Overview
The Effects of Price ControlsThe Effects of an Excise Tax