Government Actions in Markets

2. 7 Government Actions in Markets CHECKPOINTS

3. Checkpoint 7.1 Checkpoint 7.2 Checkpoint 7.3 Problem 1 Problem 1 Problem 1 Problem 1 Problem 2 Problem 2 Problem 2 Problem 3 Problem 3 Clicker version Clicker version Problem 3 Clicker version Problem 4 Problem 4 Problem 4

4. Practice Problem 1 The figure shows the rental market for apartments in Corsicana, Texas. What is the rent in this city and how many apartments are rented? If the city government imposes a rent ceiling of $900 a month, what is the rent, and how many apartments are rented? CHECKPOINT 7.1

5. Solution A rent ceiling of $900 a month is above the equilibrium rent, so the outcome is the market equilibrium rent of $800 a month with 3,000 apartments rented. CHECKPOINT 7.1

6. Practice Problem 2 The figure shows the rental market for apartments in Corsicana, Texas. If the city government imposes a rent ceiling of $600 a month, what is the rent, and how many apartments are rented? If a black market develops, how high could the black market rent be? Explain your answer. CHECKPOINT 7.1

7. Solution With the rent ceiling at $600 a month, the number of apartments rented is 1,000 and the rent is $600 a month. In a black market, some people are willing to rent an apartment for more than the rent ceiling. CHECKPOINT 7.1

8. CHECKPOINT 7.1 The highest rent that someone would offer is $1200 a month. This rent equals someone’s willingness to pay for the 1,000th apartment.

9. Practice Problem 3 The figure shows the rental market for apartments in Corsicana, Texas. With a strictly enforced rent ceiling of $600 a month, is the housing market efficient? What is the deadweight loss? Is the housing market fair? Explain why or why not. CHECKPOINT 7.1

10. Solution The housing market is not efficient. With 1,000 apartments rented, marginal benefit exceeds marginal cost and a deadweight loss arises. CHECKPOINT 7.1

11. The deadweight loss equals the area of the gray triangle: Deadweight loss equals ½ of (1,200 – 600) x (3,000 – 1,000). Deadweight loss is $600,000. CHECKPOINT 7.1

12. The rent ceiling makes the allocation of housing less fair in both views of fairness: 1. It blocks voluntary transactions, 2. It does not provide more housing to those in most need. CHECKPOINT 7.1

13. Study Plan Problem With a strictly enforced rent ceiling of $600 a month, the housing market is _______. A. efficient because a rent ceiling gives poorer people greater access to housing B. efficient because the marginal cost of the last apartment rented is greater than its marginal benefit C. inefficient because the marginal cost of the last apartment rented is greater than its marginal benefit D. inefficient because the marginal benefit from the last apartment rented is greater than its marginal cost. CHECKPOINT 7.1 The figure shows the rental market for apartments.

14. CHECKPOINT 7.1 • Practice Problem 4 • Oil price leaps to year’s high • For the first time in years, analysts forecast that proven reserves have fallen. On this news, the price of oil rose above $71 a barrel. Oil will last for years, but some analysts predict that the price could go as high as $250 a barrel. • Source: guardian.co.uk, June 10, 2009 • If the government puts a price cap on gasoline at today’s average price of $2.60 a gallon, explain why a shortage will occur. • Which allocation method is mostly likely to be used to distribute gasoline?

15. CHECKPOINT 7.1 • Solution • Gasoline is made from oil, so a rise in the price of oil increases the cost of making gasoline and decreases the supply of oil. • The market price of gasoline will rise. • A price cap at $2.60 a gallon will create a shortage because the price cap is below the market equilibrium price. • Gasoline will be allocated by the first-come, first-served method unless the government rations gasoline, in which case it will be allocated by command.

16. Practice Problem 1 The figure shows the market for tomato pickers in southern California. What is the equilibrium wage rate and what is the equilibrium quantity of tomato pickers employed? If California introduces a minimum wage of $4 an hour, how many tomato pickers are employed, and how many are unemployed? CHECKPOINT 7.2

17. Solution The equilibrium wage rate is $6 an hour, and 4,000 pickers are employed. The minimum wage of $4 an hour is below the equilibrium wage rate, so 4,000 tomato pickers are employed and none are unemployed. CHECKPOINT 7.2

18. Practice Problem 2 The figure shows the market for tomato pickers in southern California. If California introduces a minimum wage of $8 an hour, how many tomato pickers are employed and how many are unemployed? What is the lowest wage that some workers might be able to earn if a black market developed? CHECKPOINT 7.2

19. Solution The minimum wage of $8 an hour is above the equilibrium wage rate: 3,000 pickers are employed (from the demand curve) 5,000 people would like to work as pickers for $8 an hour (from the supply curve), 2,000 pickers are unemployed. CHECKPOINT 7.2

20. If a black market developed, the lowest wage that some workers might be able to earn would be $4 an hour. CHECKPOINT 7.2

21. Practice Problem 3 The figure shows the market for tomato pickers in southern California. Is the minimum wage of $8 an hour efficient? Who gains and who loses from the minimum wage of $8 and hour? Is the minimum wage of $8 an hour fair? CHECKPOINT 7.2

22. Solution The minimum wage of $8 an hour is not efficient because the marginal benefit to growers (on the demand curve) exceeds the marginal cost to pickers (on the supply curve). The minimum wage creates a deadweight loss. An additional loss arises as unemployed pickers search for jobs. CHECKPOINT 7.2

23. The tomato pickers who find work at $8 an hour gain. The tomato growers and the unemployed pickers lose. The minimum wage is unfair on both the fair rules and fair results views of fairness. CHECKPOINT 7.2

24. Study Plan Problem The figure shows the market for tomato pickers in southern California. If California introduces a minimum wage of $8.00 an hour, the minimum wage is __________. A. inefficient and not fair B. efficient and fair only if the workers can increase the number of hours they work C. inefficient but fair D. efficient and fair E. efficient but not fair CHECKPOINT 7.2

25. The figure shows the market for tomato pickers in southern California. If California introduces a minimum wage of $8.00 an hour, ________gain and_______ lose. A. unemployed pickers and tomato growers; employed pickers B. unemployed pickers; tomato growers C. tomato growers; tomato growers who find work D. employed pickers; tomato growers and unemployed pickers E. all pickers; tomato growers CHECKPOINT 7.2

26. CHECKPOINT 7.2 • Practice Problem 4 • India steps up pressure for minimum wage for its workers in the Gulf • India is pressuring the oil-rich countries in the [Persian] Gulf to pay minimum wages to the 5 million unskilled Indians working in the Gulf. • Source: International Herald Tribune, March 27, 2008 • If the Persian Gulf countries paid Indian workers a minimum wage above the equilibrium wage paid to other unskilled workers, would migrant Indian workers be better off, worse off, or unaffected by the higher wage?

27. CHECKPOINT 7.2 • Solution • The supply of immigrant workers in the gulf is perfectly elastic, with workers coming from most south asian countries. • If the wage paid to indian workers is above the equilibrium wage, the quantity of unskilled indians employed would decrease. • Most indians would be unemployed and sent back to india. • They would then compete to work in india and be worse off.

28. Practice Problem 1 The figure shows the market for tomatoes. What are the equilibrium price and quantity of tomatoes? Is the market for tomatoes efficient? CHECKPOINT 7.3

29. Solution The equilibrium price is $6 per pound, and the equilibrium quantity is 2 billion pounds a year. The market for tomatoes is efficient—marginal benefit equals marginal cost and total surplus is maximized. CHECKPOINT 7.3

30. Practice Problem 2 The figure shows the market for tomatoes. The government introduces a price support for tomatoes at $8 per pound. What is the quantity of tomatoes produced, the quantity demanded, and the subsidy received by tomato farmers? CHECKPOINT 7.3

31. Solution At a support price of $8 per pound, 3 billion pounds are produced and 1 billion pounds are demanded, so there is a surplus of 2 billion pounds. The subsidy is $8 per pound on 2 billion pounds, which is $16 billion. CHECKPOINT 7.3

32. Practice Problem 3 The figure shows the market for tomatoes. With the price support at $8 per pound, is the market for tomatoes efficient? Who gains and who loses from the price support? What is the deadweight loss? Could the price support be regarded as being fair? CHECKPOINT 7.3

33. Solution The market is not efficient because at the quantity produced, the marginal benefit (on the demand curve) is less than the marginal cost (on the supply curve). CHECKPOINT 7.3

34. Farmers gain. Farmers produce more and receive a higher price on what they sell in the market, and they receive the government subsidy. Consumers/taxpayers lose. They pay more for tomatoes and pay taxes to fund the subsidy. The deadweight loss is $2 billion (the area of the gray triangle). CHECKPOINT 7.3

35. The outcome is unfair on both views of fairness unless farmers are poorer than the consumers, in which case it might be fair to boost farmers’ incomes. CHECKPOINT 7.3

36. Study Plan Problem The figure shows the market for tomatoes. With the price support at $8 per pound, the quantity produced is ____ because _____ . A. inefficient; marginal cost is less than marginal benefit B. efficient; marginal cost equals marginal benefit C. inefficient; marginal benefit is less than marginal cost D. efficient; marginal benefit is less than marginal cost CHECKPOINT 7.3

37. The figure shows the market for tomatoes. The government introduces a price support for tomatoes at $8 per pound. With the price support, _____ lose and ______ gain. A. farmers; consumers and taxpayers B. consumers and taxpayers; farmers and the government C. taxpayers; farmers and consumers D.consumers and taxpayers; farmers CHECKPOINT 7.3

38. CHECKPOINT 7.3 • Practice Problem 4 • French farmers man the blockades in Brussels • Farmers want the dairy industry to guarantee a minimum milk price of 300 euros a ton—against 210 euros a ton this month. Max Bottier, a dairy farmer said that he needs 300 euros a ton to break even. • Source: The Times, May 26, 2009 • If a support price for milk set at 300 euros a ton, how will the support price change the quantity of milk produced, the quantity bought by consumers, and who buys the excess supply? Will the European milk market be more or less efficient than it is today?

39. CHECKPOINT 7.3 • Solution • The market price today is 210 euros a ton. • A support price of 300 euros a ton will increase the quantity of milk supplied and decrease the quantity of milk demanded. • There will be a surplus of milk. To maintain the support price at 300 euros a ton, the government will have to buy the surplus of milk—that is, pay farmers a subsidy. • The market will be less efficient because it creates a deadweight loss.