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Final

BUS 207 Chapter Notes - Chapter 5: Price Ceiling, Price Floor, ShortageExam


Department
Business Administration
Course Code
BUS 207
Professor
Bernie Maroney
Study Guide
Final

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Chapter 5: Price Controls and Market Efficiency
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Answers to Study Exercises
Fill-in-the-Blank Questions
Question 1
a) greater or above
b) less or below
c) demand; reduction (decrease)
d) adjust (increase)
e) supply; reduction (decrease)
f) adjust (fall); supply; purchase
g) floor
h) ceiling
Question 2
a) $5; 600 hats
b) price ceiling at $3
c) excess demand; 400
d) price floor at $6
e) excess supply; 200
Question 3
a) ceiling
b) shortage (excess demand)

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c) inelastic; elastic; larger
d) tenants (who secure low-price housing); landlords and tenants who cannot find housing at the
legislated rental price
Question 4
a) surplus
b) demand; supply
c) reduction; surplus; deadweight
d) deadweight loss
Review Questions
Question 5
a) With a binding price ceiling, the excess demand means that consumers must somehow be
rationed by means other than price. This situation often encourages rationing by “sellers
preferences”, where the seller can come up with any (often undesirable) scheme to ration the
product, such as by:
• religious beliefs or affiliation
• race
• sexual preferences
• occupation
b) With a binding price floor, the government could choose to purchase the excess supply, thus
transferring resources from taxpayers to producers. Alternatively, the government could introduce a
quota system so that the producers face an upper limit on production equal to the quantity
demanded at the floor price.
c) If the government views the product in question as a necessity, it may introduce a price ceiling in
the hope that it will improve consumers’ access to the product. However, to the extent that the
quantity supplied will fall, overall access will be reduced by such a policy.
d) If the government views the sellers of the product as deserving of support, a price floor may be
seen as a desirable policy. (This is the motivation for a legislated minimum wage.) However, to the
extent that quantity demanded for the product will fall, some sellers of the product may see their
markets disappear.

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Question 6
The supply of rental accommodation is more elastic in the long run than in the short run because it
takes time to build new units or to convert private housing into rental units (or to let existing units
physically depreciate). Therefore, whatever housing shortage exists immediately after the
imposition of rent controls only gets worse as time proceeds, as the quantity of rental housing
supplied declines as landlords no longer find it profitable to maintain their rental units.
In terms of the diagram below, when rent controls set a maximum price of pC, the housing
shortage is Q1Q2 in the short run, but grows to Q3Q2 as the long-run supply elasticity becomes
relevant. Note that the short-run supply curve is drawn very steep, indicating that the supply of
rental housing is highly inelastic in the short run.
Question 7
a) Legislated Rent Controls: Landlords bear the burden because the return on their investment is
reduced. Would-be tenants also bear the burden because many of them will not be able to find
accommodation when the rent controls reduce the quantity supplied or have to pay much higher
rents if they are able to find a non-rent-controlled apartment.
b) Subsidies to Tenants: Taxpayers who are not also tenants do not receive the subsidy and thus
bear the burden of this policy.
c) Provision of Public Housing: Taxpayers bear the burden because their taxes finance the public
housing. Landlords will also bear some burden of the policy if the provision of public housing leads
to a decline in overall rents (due to the increase in supply of rental units).
Question 8
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