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Chapter 6 - Government Actions in Markets.pdf

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ECON 1000
Monica Belcourt

Chapter 6 - Government Actions in Markets October-11-11 8:44 PM A HousingMarket with a Rent Ceiling Most of our income is spent on housing When rents are high renters lobby the government for limits on rents Governmentregulation that makes it illegal to charge a price higher than specified level is a price ceiling or a price cap Effects of a price ceiling on a market depend crucially on whether the ceiling is imposed at a level that is above or below equilibrium price If above then there is no effect because it does not constrain market forces If below then there are powerful effects Preventsthe price from regulating quantities demanded and supplied, force of law and market are in conflict Rent ceiling set below equilibrium rent creates A housing shortage At equilibrium quantity demanded is equal to quantity supplied In housing, quantity of housing supplied equals quantity of housing demanded With a rent set below equilibrium, demand exceeds supply and there is a shortage of housing With a shortage the quantity available is quantity supplied and must be allocated among frustrated demanders Results in increased search activity Increased search activity Time spent looking for someone to do business is search activity Frustrated would-be renters scan papers for housing ads and death notices Opportunity cost is equal to its price and value of search time spent finding good Opportunity cost of housing is equal to rent and time and other resources spent searching for the restricted quantity Uses time and other resources like phone calls, automobiles, and gasoline that Rent ceiling may make full cost of housing higher than without rent ceiling Black market Illegal market in which equilibrium price exceeds price ceiling Example: scalpers sell tickets for big events With price ceilings renters find more ways to make money Charge high prices for cheap drapes or "key money" (exorbitant price for new locks) Level of black market related to how tightly rent ceiling is enforced When loose, black market rent is similar to unregulated rent When strict, black market rent is equal to the maximum price a renter is willing to pay Inefficiency of a Rent Ceiling A rent ceiling set below equilibrium results in inefficient underproduction of housing services Marginal social benefits exceed marginal social cost and deadweight loss shrinks producer and consumer surplus When ceiling is lower than equilibrium surpluses shrink and loss is suffered by all Full loss from rent ceiling is sum of deadweight loss and increased cost of search activity Are rent ceilings fair? May be inefficient but might help achieve fairer allocation of scarce housing According to fair rules, anything that blocks voluntary exchange is unfair Rent ceilings are unfair But according to fair result view, a fair outcome is one that benefits the less well off According to this the fairest outcome is one that allocates scarce housing to poorest people To see if rent ceilings are fair in this sense we need to consider how markets allocate scarce housing when using rent ceiling Blocking rent adjustment decreases quantity available and creates a bigger challenge for housing market Market must somehow ration smaller quantity of housing and allocate that housing to those willing to rent at rent ceiling When rent is not permitted to allocate scarce resources one can use other mechanisms Lottery Rewards those who are lucky not poor First-come first-served Used to allocate housing in English after WWII Rewards those with foresight to get on a list first, not the poor Discrimination Allocation based on views and self-interests of the owner In public housing, it is the self-interest of bureaucracy that administers the allocation that counts In theory bureaucrats can allocate housing to satisfy criterion of fairness but not likely Discrimination based on friendship, family ties, and race more likely to enter equation Can make discrimination illegal but can't stop it from occurring Hard to make a case for rent ceilings on the basis of fairness When rent adjustments are blocked, other methods of allocating scarce housing operate that do not produce a fair outcome A LabourMarket with a Minimum Wage Labour market influences jobs we get and wages we earn Firms decide how much labour to demand, and the lower the wage rate the greater labour demanded Households decide how much to supply and the higher the wage rate the greater quantity of labour supplied Wage rate adjusts to make the quantity of labour demanded equal quantity supplied When low labour unions lobby for higher wages Government-imposedregulation to charge a price lower than specified level is a price floor Effects on a market depend crucially on whether the floor is imposed at a level that is above or below the equilibrium price Price floor below equilibrium has no effect Price floor above has effects because price floor prevents price from regulating quantities demanded and supplied Law and market forces are in conflict When price floor is applied to labour market it is a minimum wage Minimum wage imposed above equilibrium wage creates unemployment Minimum Wage Brings Unemployment ECON 1000 Page 1 Minimum Wage Brings Unemployment At equilibrium price quantity demanded equals quantity supplied In a labour market, when wage rate is at the equilibrium level quantity of labour supplied equals quantity of labour demanded Neither a shortage of labour nor a surplus of labour When wage rate is above equilibrium quantity of labour supplied exceeds quantity demanded--> surplus of labour Surplus of labour is unemployed Inefficiency of a Minimum Wage Supply curve measures marginal social cost of labour to workers Cost is leisure forgone Demand curve measures marginal social benefit from labour Benefit is goods and services produced Unregulated market allocates scarce labour resources to the jobs where they are valued most highly--> an efficient market Minimum wage results in unemployment and increased job search At the quantity of labour employed marginal social benefit of labour exceeds marginal social cost Deadweight loss shrinks the firms' surplus and workers' surplus If quantity of labour employed is less than efficient quantity there is a deadweight loss Surpluses shrink and there is increased potential loss from increased job search Full loss is sum of deadweight loss and the increased job search Is Minimum Wage Fair? Delivers unfair result and imposes unfair rule Result Unfair because only those people who have jobs and keep them benefit from mini
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