Publicité
Publicité

Contenu connexe

Publicité

Demand, supply and government policies nnn.pptx

  1. 1 SUPPLY, DEMAND, AND GOVERNMENT POLICIES
  2. 2 Supply, demand, and government • In a free, unregulated market system, market forces establish equilibrium prices and quantities • The market equilibrium may be efficient, but it may not leave everyone satisfied • Those who consider themselves to be losing from the market outcomes will ask for government to intervene in the market • The government intervention in the markets may take several ways, depending on the circumstances • We will look at two different cases of direct government involvement in markets: – Price controls – Taxes levied on goods and services
  3. 3 Price controls • Price control: government sets an upper or lower limit (or both) to the price of good or service • Price controls are often used in many countries • Price controls are enacted by governments because there is a demand for them from some sections of the public • Who, either as buyers or sellers feel that the existing market price is unfair to them • We will distinguish between two types of controls • Price Ceiling: a legally established maximum price at which a good can be sold. • Price Floor: a legally established minimum price at which a good can be sold
  4. 4 Price ceilings • Price ceilings limit the maximum price that sellers can charge to their customers • In other words, market price can be lower but can not be higher than the price fixed by government • Two outcomes are possible when the government imposes a price ceiling • The price ceiling is not binding if it is set above the equilibrium price • It will have no impact on the market • The price ceiling is binding if it is set below the equilibrium price • It will lead to shortages in the market as demand exceeds supply at that price
  5. A price ceiling that is not binding $4 3 Quantity of Ice-Cream Cones 0 Price of Ice-Cream Cone 100 Equilibrium quantity Price ceiling Equilibrium price Demand Supply
  6. A price ceiling that is binding $3 Quantity of Ice-Cream Cones 0 Price of Ice-Cream Cone 2 Demand Supply Price ceiling Shortage 75 Quantity supplied 125 Quantity demanded Equilibrium price
  7. 7 Effects of price ceilings • A price ceiling prevents the price to rise further even if demand is high • A binding price ceiling creates shortages because QD > QS. • Example: there was a margarine shortage in Turkey during 1978-79 crisis because the price was fixed too low to cover the costs of producers • Shortages result in non-price rationing such as long lines in front of the shops, discrimination by sellers and as a rule the formation of a “black market” • In Turkey there was a black market for dollars before 1980s because the government had fixed the exchange rate below the market equilibrium rate
  8. 8 (a) The Price Ceiling on Gasoline Is Not Binding Quantity of Gasoline 0 Price of Gasoline (b) The Price Ceiling on Gasoline Is Binding P 2 P 1 Quantity of Gasoline 0 Price of Gasoline Q 1 Q D Demand S 1 S 2 Price ceiling Q S 4. ... resulting in a shortage. 3. ...the price ceiling becomes binding... 2. ...but when supply falls... 1. Initially, the price ceiling is not binding... Price ceiling P 1 Q 1 Demand Supply, S 1 Price ceiling on gasoline A fall in supply turns an unbinding price ceiling into a binding ceiling and causes shortages of gasoline
  9. 9 (a) Rent Control in the Short Run (supply and demand are inelastic) (b) Rent Control in the Long Run (supply and demand are elastic) Quantity of Apartments 0 Supply Controlled rent Shortage Rental Price of Apartment 0 Rental Price of Apartment Quantity of Apartments Demand Supply Controlled rent Shortage Demand Rent control: short and long run Controling rents cause bigger shortages in the long run because new construction becomes unattractive, reducing long run supply
  10. 10 Price floors • Price floors set the minimum price that buyers must pay for a product • Market price can be higher but not below the price set by the government • When the government imposes a price floor, again two outcomes are possible • The price floor is not binding if it is set below the equilibrium price • It has no effect on the market • The price floor is binding if it is set above the equilibrium price • It leads to a surplus because demand is less than supply at that price
  11. 11 A price floor that is not binding $3 2 Quantity of Ice-Cream Cones 0 Price of Ice-Cream Cone 100 Equilibrium quantity Price floor Equilibrium price Demand Supply
  12. 12 A price floor that is binding $4 Quantity of Ice Cream Cones 0 Price of Ice Cream Cones 3 Demand Supply Price floor 80 Quantity demanded 120 Quantity Supplied Equilibrium price Surplus
  13. 13 Effects of a price floor • A price floor prevents price to fall even if demand is very low • When the market price hits the floor, it can fall no further, and the market price equals the floor price • A binding price floor causes a surplus of supply over demand because at that price QS > QD. • Agricultural support prices are typical examples • When set above market levels, they result in large unsold stocks (tobacco?) • Minimum wage laws also set price floors for wages • Binding minimum wages prevent wages to go down and therefore cause unemployment
  14. 14 (a) A Free Labor Market Quantity of Labor 0 Wage Equilibrium employment (b) A Labor Market with a Binding Minimum Wage Quantity of Labor 0 Wage Quantity demanded Quantity supplied Labor supply Labor demand Minimum wage Labor surplus (unemployment) Equilibrium wage Labor demand Labor supply Minumum wage law and employment Minimum wage legislation increases both the real wage of employed and the number of unemployed
  15. 15 Taxes: impact • Taxes levied on goods and services are called indirect taxes • The amount of tax fixed by the government is added to the price and paid everytime the good is sold • Taxes discourage market activity • When a good is taxed, the quantity sold is smaller • Buyers and sellers share the tax burden • Tax incidence 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
  16. Impact of a 50¢ tax on buyers 3.00 Quantity of Ice-Cream Cones 0 Price of Ice-Cream Cone 100 D1 Supply, S1
  17. Impact of a 50¢ tax on buyers $3.30 3.00 2.80 Quantity of Ice-Cream Cones 0 Price of Ice-Cream Cone Price sellers receive 100 90 Equilibrium with tax Equilibrium without tax Price buyers pay D1 D2 Supply, S1
  18. Impact of a 50¢ tax on sellers 3.00 Quantity of Ice-Cream Cones 0 Price of Ice-Cream Cone 100 S1 Demand, D1
  19. Impact of a 50¢ tax on sellers $3.30 3.00 2.80 Quantity of Ice-Cream Cones 0 Price of Ice-Cream Cone Price without tax Price sellers receive 100 90 Equilibrium with tax Equilibrium without tax Tax ($0.50) Price buyers pay S1 S2 Demand, D1 A tax on sellers shifts the supply curve upward by the amount of the tax ($0.50).
  20. 20 The incidence of tax • Tax incidence tries to establish who pays the tax in the end? • In other words, in what proportions is the burden of the tax divided between buyers and sellers? • Alternatively, how do the effects of taxes on sellers compare to those levied on buyers? • This is an opportunity for us to see how the measure of elasticity can be used in economics • Because the answers to these questions depends on the elasticity of demand and the elasticity of supply. • We shall show that the burden of a tax falls more heavily on the side of the market that is less elastic
  21. 21 Elasticity and tax incidence • Elasticity enters the picture because total revenue in the market depends on the price elasticity of demand and price elasticity of supply • We can distinguish among three major cases – If demand is inelastic while supply is elastic, then a larger share of the tax will fall on the buyers – If demand is elastic while supply is inelestic, then a larger share of the tax will fall on the sellers – If demand and supply are unit elastic, buyers and seller will share the tax burden equally • The government is able to target correctly those whom it wishes to pay the tax when the price elasticities of demand and supply are known
  22. 22 Elastic supply, inelastic demand Quantity 0 Price Demand Supply Price without tax
  23. 23 Elastic supply, inelastic demand Quantity 0 Price Demand Supply Tax 2. ...the incidence of the tax falls more heavily on consumers... 1. When supply is more elastic than demand... 3. ...than on producers. Price sellers receive Price buyers pay Price without tax
  24. 24 Inelastic supply, elastic demand Quantity 0 Price Demand Supply Price without tax
  25. 25 Inelastic supply, elastic demand Price without tax Quantity 0 Price Demand Supply Tax Price sellers receive Price buyers pay 2. ...the incidence of the tax falls more heavily on producers... 3. ...than on consumers. 1. When demand is more elastic than supply...
  26. 26 Taxing luxuries or necessities? • There is always a demand from the public to tax luxuries but not necessities • Taxing goods that are considered luxuries is popular both with the public and governments • Unfortunately luxury goods usually have high price elasticity of demand (bigger than 1) • Therefore taxes reduce the consumption of luxuries • Tax revenue is much lower than expected • In turn, necessities have low price elasticity of demand (smaller than 1) • And yield high tax revenues to the government
  27. 27
  28. 28 Conclusion • The economy is governed by two kinds of laws: – The laws of supply and demand. – The laws enacted by government • Prices can be controled by ceilings or floors • Price ceilings cause shortages and black market • Price floors result in surpluses and unsold stoks held by the government • Taxes raise revenue to the government • Taxes create new price equilibriums in which buyers and sellers share the tax • The incidence of the tax depends on the price elasticity of demand and supply • Necessities are taxed to get more revenue
Publicité