Ceilings and Floors

The Role of Prices Convey information –When Tickle Me Elmos went up in price form about $30 to $300, it told us something about the popularity of the doll Rationing device –The price is what determines who can have the good

Rationing Devices What are other rationing devices? –First Come-First Served –Alphabetical –The government could decide who needs it the most –Height –Gender –etc.

Disequilibrium Behavior Is it possible for the price and quantity to NOT be in equilibrium? Yes - While the invisible hand may move price towards equilibrium, there are two types of forces that keep the price away from equilibrium We will call these The Invisible Foot and The Invisible Handshake (thanks for David Colander for these names!)

The Invisible Foot This is government interference with prices in the market. The government does this quite often. For instance you may notice that at UDF they advertise that they sell milk and beer at state minimum prices meaning that the state will not allow prices on milk and beer to be below a set amount.

Price Controls There are two types of price controls - Price Ceilings and Price Floors

Price Ceilings Price Ceiling - sets a maximum price that is allowed by law. Result of Price Ceiling: –Stay at a permanent shortage situation Note that a price ceiling can be any price the government chooses. It is, however only effective if it is below the equilibrium price

Price Ceiling Example of Price Ceiling Rent controlled apartments In New York City, San Francisco, Boston, and other cities the city or state determines the maximum amount that can be charged for rent on many apartments. A maximum price is a price ceiling

Rent Controlled Apartments

P Q 0

P Q S 0

P Q S D 0

P Q S D P* Q* 0

Rent Controlled Apartments P Q S D P* Q* 0 P ceiling QsQs QdQd Amount of Shortage

Winners and Losers Who gains and loses with price ceilings: 1. Benefit - those who get rent controlled apartments 2. Loses - those who cant find apartments due to the shortage. 3. Loses - landlords who must accept lower rent.

Price Floors Price Floor - sets a minimum price that is allowed by law. Result of Price Floor Stay at a permanent surplus situation Note that a price floor can be set at any price, but is only effective if it is above the equilibrium price

Price Floors Example of Price Floor Minimum Wage Legislation The minimum wage is a lowest price the government will allow firms to pay for labor. A minimum price is a price floor

Price Floors When we look at the labor market it is similar to other supply and demand diagrams except for the labels. L - quantity of workers w - wages (the price we pay workers) It is also different because the suppliers of labor are households, not firms and the demanders of labor are firms, not households

Winners and Losers Who gains and loses with price floors: 1. Benefit - those who get higher wages 2. Loses - those who cant find jobs at the higher wage 3. Loses - firms who must pay higher wages.

Minimum Wage Legislation

Wage # of Workers 0

Minimum Wage Legislation Wage # of Workers S 0

Minimum Wage Legislation Wage # of Workers S D 0

Minimum Wage Legislation Wage # of Workers S D w* L* 0

Minimum Wage Legislation Wage # of Workers S D w* L* 0 w floor LdLd LsLs Amount of Unemployed Workers

Invisible Handshake The Invisible Handshake is social pressure that often prevents price from reaching equilibrium For instance, lets think about what happened recently when Bruce Springsting played Music Hall downtown. Tickets sold out in hours and there many people who wanted to get tickets than were able to buy them from Ticketmaster

Invisible Handshake What does that say about the price of the tickets? Were the tickets priced below or above equilibrium price? –Below, since there was a shortage So why werent prices at the equilibrium price? –Bruce didnt want alienate fans –It is not considered right to charge so much

Invisible Handshake Another example of the Invisible Handshake is with transplant organs There are not enough organs for all the people who need them This means the price of an organ is below the equilibrium Why dont hospitals and doctors raise the price to equilibrium?

Rationing Devices When a market it out of equilibrium, price is not always working as a rationing device. Think about what might be the rationing device for our examples –Tickets to the concert –Rent controlled apartments –Transplant Organs