1. Copyright © 2004 South-Western 6 Supply, Demand, and Government Policies (Framboð, eftirspurn og stefna stjórnvalda)

2. Copyright © 2004 South-Western/Thomson Learning Supply, Demand, and Government Policies In a free, unregulated (óreglusett) market system, market forces (kraftar markaðarins) establish (leggja grunn að) equilibrium prices and exchange quantities. While equilibrium conditions may be efficient, it may be true that not everyone is satisfied. One of the roles of economists is to use their theories to assist in the development of policies.

3. Copyright © 2004 South-Western/Thomson Learning CONTROLS ON PRICES Are usually enacted when policymakers believe the market price is unfair to buyers or sellers. Result in government-created price ceilings and floors.

4. Copyright © 2004 South-Western/Thomson Learning CONTROLS ON PRICES Price Ceiling (verð þak) A legal maximum on the price at which a good can be sold. Price Floor (verð gólf) A legal minimum on the price at which a good can be sold.

5. Copyright © 2004 South-Western/Thomson Learning How Price Ceilings Affect Market Outcomes Effects of Price Ceilings A binding price ceiling creates shortages because Q D > Q S. Example: Gasoline shortage of the 1970s

6. Figure 2 The Market for Gasoline with a Price Ceiling Copyright©2003 Southwestern/Thomson Learning (b) The Price Ceiling on Gasoline Is Binding Quantity of Gasoline 0 Price of Gasoline Demand S1S1 S2S2 Price ceiling QSQS 4.... resulting in a shortage. 3.... the price ceiling becomes binding... 2.... but when supply falls... P2P2 QDQD P1P1 Q1Q1

7. Copyright © 2004 South-Western/Thomson Learning The Minimum Wage An important example of a price floor (verðgólf) is the minimum wage (lágmarkslaun). Minimum wage laws dictate (stýra verðir niður í lægsta mögulega verð) the lowest price possible for labor that any employer may pay.

8. Figure 5 How the Minimum Wage Affects the Labor Market Copyright©2003 Southwestern/Thomson Learning Quantity of Magn Laborvinnuafls Wage Laun 0 Labor demand Labor Supply Equilibrium employment Equilibrium wage

9. Figure 5 How the Minimum Wage Affects the Labor Market Copyright©2003 Southwestern/Thomson Learning Quantity of Labor Wage 0 Labor Supply Labor surplus (unemployment) Labor demand Minimum wage Quantity demanded Quantity supplied Umframframboð (atvinnuleysi)

10. Copyright © 2004 South-Western/Thomson Learning TAXES Governments levy taxes (leggja á skatta) to raise revenue for public projects.

11. Copyright © 2004 South-Western/Thomson Learning How Taxes on Buyers (and Sellers) Affect Market Outcomes Áhrif skatta á markaðinn Taxes discourage market activity. When a good is taxed, the quantity sold is smaller. Buyers and sellers share the tax burden.

12. Copyright © 2004 South-Western/Thomson Learning Elasticity and Tax Incidence Tax incidence (dreifing skattbyrðar) is the study of who bears the burden of a tax. Taxes result in a change in market equilibrium. Buyers pay more and sellers receive less, regardless of whom the tax is levied on.

13. Figure 6 A Tax on Buyers Copyright©2003 Southwestern/Thomson Learning Quantity of Ice-Cream Cones 0 Price of Ice-Cream Cone Price without tax Price sellers receive Equilibrium without tax Tax ($0.50) Price buyers pay D1D1 D2D2 Supply,S1S1 A tax on buyers shifts the demand curve downward by the size of the tax ($0.50). $3.30 90 Equilibrium with tax 2.80 3.00 100

14. Copyright © 2004 South-Western/Thomson Learning Elasticity and Tax Incidence What was the impact of tax? Taxes discourage market activity. When a good is taxed, the quantity sold is smaller. Buyers and sellers share the tax burden.

15. Figure 7 A Tax on Sellers Copyright©2003 Southwestern/Thomson Learning 2.80 Quantity of Ice-Cream Cones 0 Price of Ice-Cream Cone Price without tax Price sellers receive Equilibrium with tax Equilibrium without tax Tax ($0.50) Price buyers pay S1S1 S2S2 Demand,D1D1 A tax on sellers shifts the supply curve upward by the amount of the tax ($0.50). 3.00 100 $3.30 90