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Lecture #9 - Oct 17.docx

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Economics 1021A/B
Michael Parkin

Nicole Wallenburg Mr. Parkin Economics Oct 17, 2011 Economics – Lecture #9 A Housing Market with a Rent Ceiling  A price ceiling or price cap is a regulation that makes it illegal to charge a price higher than a specified level.  When a price ceiling is applied to a housing market it is called a rent ceiling.  If the rent ceiling is set above the equilibrium rent, it has no effect. The market works as if there were no ceiling.  But if the rent ceiling is set below the equilibrium rent, it has powerful effects. At the rent ceiling, the quantity of housing demanded exceeds the quantity supplied. There is a shortage of housing. Because the legal price cannot eliminate the shortage, other mechanisms operate:  Search activity  Black markets Search Activity  The time spent looking for someone with whom to do business is called search activity.  When a price is regulated and there is a shortage, search activity increases.  Search activity is costly and the opportunity cost of housing equals its rent (regulated) plus the opportunity cost of the search activity (unregulated).  Because the quantity of housing is less than the quantity in an unregulated market, the opportunity cost of housing exceeds the unregulated rent. Black Markets  A black market is an illegal market that operates alongside a legal market in which a price ceiling or other restriction has been imposed.  A shortage of housing creates a black market in housing.  Illegal arrangements are made between renters and landlords at rents above the rent ceiling—and generally above what the rent would have been in an unregulated market. Nicole Wallenburg Mr. Parkin Economics Oct 17, 2011 Inefficiency of Rent Ceilings  A rent ceiling set below the equilibrium rent leads to an inefficient underproduction of housing services.  The marginal social benefit from housing services exceeds its marginal social cost and a deadweight loss arises.  A rent ceiling decreases the quantity of housing supplied to less than the efficient quantity.  A deadweight loss arises.  Producer surplus shrinks.  Consumer surplus shrinks.  There is a potential loss from increased search activity. Are Rent Ceilings Fair? According to the fair rules view, a rent ceiling is unfair because it blocks voluntary exc
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