EQUILIBRIUM, PRICE CONTROLS, & ELASTICITY SSEMI2c, 3b: Explain and illustrate the effects of price floors and ceilings.

The intersection of supply and demand Equilibrium Price

Where Demand and Supply Meet Equilibrium is the point where Demand and Supply cross Market equilibrium determines the price At this price Qs = Qd Everyone prepared to buy at that price gets what they want and everyone prepared to sell at that price does.

Market Equilibrium s d Q P Pe Qe Market equilibrium Price occurs where Qd = Qs This occurs at Pe. At this price, the market quantity, Qd and Qs, are the same (Qe). Equilibrium is a state of balance. There are no shortages or surpluses.

Changes to equilibrium *A change to any of the variables that cause a shift in either demand or supply will cause a change in the equilibrium price and quantity. * Factors that shift the demand curve N*I*C*E*S*T Factors that shift the supply curve S*T*E*P*I*N*G

Example – Changes in Demand An increase in demand caused by an increase in consumer incomes s d Q Price ($) Pe Qe d' P1 Q1 At the new equilibrium prices have increased and quantity has increased

Example – Changes in Supply A decrease in supply caused by cost of production increasing s d Price ($) Pe Qe s’ Qe’ Pe’ At the new equilibrium price has increased and quantity has decreased

Excess Supply (Surplus) 0 Qd Qs Q P P* At price p* quantity demanded (Qd) is less than quantity supplied (Qs). There is an oversupply or surplus. (of Qs - Qd) The market is in disequilibrium and is not stable. Market forces ( excess supply) will tend to force prices down. s d

Excess Demand (Shortage) 0 Qs Qd Q P P* S D At price P* quantity demanded is greater than quantity supplied. There are shortages, not enough supply to meet demand The excess demand tends to push prices up.

Price Controls

PRICE CONTROLS Who likes the idea of having a price ceiling on gas so prices will never go over $1 per gallon? 11

Price floors and ceilings  One common way to achieve social goals is to have the government set prices at “socially desirable” levels.

Q o $ P D S Shortage (Qd>Qs) Maximum legal price a seller can charge for a product. Goal: Make affordable by keeping price from reaching Eq. Gasoline Does this policy help consumers? Result: BLACK MARKETS Price Ceiling To have an effect, a price ceiling must be below equilibrium

Shortage  Shortage: a situation where the Qd > Qs (at a given price)

Example of Price Ceiling  Some cities like New York, have rent controls.  In some buildings a certain percentage of apartments must be offered at a very low price.  This creates a surplus of people wanting these apartments.

Q o $4321$4321 P D S Surplus (Qd<Qs) Minimum legal price a seller can sell a product. Goal: Keep price high by keeping price from falling to Eq. Corn Does this policy help corn producers? Price Floor To have an effect, a price floor must be above equilibrium

Price Floors create a Surplus  Surplus: a situation in which Qs > Qd (at a given price)  Result: Suppliers have extra goods and services.

Example of Price Floor  Minimum wage – the least amount an employer can pay a worker  Price Floors create a surplus of workers, leaving many people without a job.

…. A short story Price Controls

Moving on to Elasticity……

Elasticity of Demand Who cares? Elasticity is used by businesses to help determine market prices.  Elasticity of Demand- Measurement of consumers responsiveness to a change in price.  Firms must ask: What will happen if price increase? How much will it effect Quantity Demanded?

Inelastic demand….  INelastic = Insensitive to a change in price.  If price increases, quantity demanded will fall a little  If price decreases, quantity demanded increases a little.  In other words, people will continue to buy it.

Inelastic demand….  General Characteristics of INelastic Goods:  Few Substitutes  The products are necessities  Required now, rather than later  Examples: Medical care, chewing gum

Elastic Demand…  Elastic = Sensitive to a change in price.  If price increases, Qd will fall a lot  If price decreases, Qd increases a lot.  In other words, the amount people buy is sensitive to price.

Elastic Demand….  General Characteristics of Elastic Goods:  Many Substitutes  Luxuries  Large portion of income  Plenty of time to decide  Examples: soda, boats

Elastic vs. Inelastic  To determine if a product is elastic or inelastic you will ask yourself 3 questions:  Can the purchase be delayed?  Is the product a large portion of my income?  Are their substitutes?  If you can answer “yes” to 2 or more, the product/service is considered elastic.

Elastic or Inelastic? Beef- Gasoline- Real Estate- Medical Care- Electricity- Gold- Elastic INelastic Elastic Inelastic INelastic Elastic What about the demand for insulin for diabetics?

Price Elasticity of Supply  Price elasticity of supply is a measure of how much the quantity supplied of a good responds to a change in the price of that good. 1. Ability of sellers to change the amount of the good they produce. Beach-front land is inelastic. Books, cars, or manufactured goods are elastic. 2. Time period Supply is more elastic in the long run.