Competitive Markets: Applications

Transcription

1 ompetitive Markets: pplications 1. eadweight Loss: " erfectly ompetitive Market Without Intervention Maximizes otal urplus" 2. Government Intervention: Who wins and who loses? 3. Examples of Various Government olicies Excise axes rice eilings roduction uotas Import ariffs 4. onclusions 1 2 Example: urplus Maximization in ompetitive Equilibrium t the erfectly ompetitive Equilibrium, (*,*), otal urplus is maximized. d upply onsumer's urplus at (*,*): roducer's urplus at (*,*) : otal urplus at (*,*): * s emand 1 * 3 4 Example: urplus Maximization in ompetitive Equilibrium s upply efinition: deadweight loss is a reduction in net economic benefits resulting from an inefficient allocation of resources. * (haded area in diagrams) d emand *

2 efinition: Economic Efficiency means that the total surplus is maximized. "Every consumer who is willing to pay more than the opportunity cost of the resources needed to produce extra output is able to buy; every consumer who is not willing to pay the opportunity cost of the extra output does not buy." "ll gains from trade (between buyers and suppliers) are exhausted at the efficient point." efinition: n excise tax (or a specific tax) is an amount paid by either the consumer or the producer per unit of the good at the point of sale. (he amount paid by the demanders exceeds the total amount received by the sellers by amount ) he perfectly competitive equilibrium attains economic efficiency. 7 8 d * s Example: Excise ax efinition: he amount by which the price paid by buyers,, rises over the non-tax equilibrium price, *, is the incidence of the tax on consumers; the amount by which the price received by sellers,, falls below * is called the incidence of the tax on producers. 1 * emand 9 10 d =*+ s = * Example: Incidence of a ax in wo ases "ack of the envelope" method to calculate the incidence of a specific tax d / s = η/ε where: η is the own-price elasticity of supply ε is the own-price elasticity of demand d = * s = *

3 Why? consider a small tax applied to an economy at point (*,*) ε =( /*)/( d /*) /*= d /*ε η =( /*)/( s /*) /*= s /*η but for market to clear, /* must be the same for demand and supply, hence d /*ε = s /*η Example: Let ε = -.5 and η = 2. What is the relative incidence of a specific tax on consumers and producers? d / s = 2/-.5 = -4 interpretation: "consumers pay four times as much as the decrease in price producers receive. Hence, an excise tax of 1 results in an increase in consumer price of.8 and a decrease in price received by producers of.2" Note: ubsidies are negative taxes Example: ubsidies Example: ubsidies s s d d * 2 * Example: ubsidies s efinition: price ceiling is a legal maximum on the price per unit that a producer can receive. If the price ceiling is below the pre-control competitive equilibrium price, then the ceiling is called binding. d *

4 Example: rice eilings Example: rice eilings MX Example: rice eilings efinition: price floor is a minimum price that consumers can legally pay for a good. rice floors sometimes are referred to as price supports. If the price floor is above the pre-control competitive equilibrium price, it is said to be binding. MX Excess emand s * d Example: rice Floor Example: rice Floor Excess upply MIN d * s

5 Example: roduction uota efinition: production quota is a limit on either the number of producers in the market or on the amount that each producer can sell. he quota usually has a goal of placing a limit on the total quantity that producers can supply to the market. Original upply MX * emand Example: roduction uota upply with quota Original upply efinition: ariffs are taxes levied by a government on goods imported into the government's own country. ariffs sometimes are called duties. * efinition: n import quota is a limit on the total number of units of a good that can be imported into the country. MX * emand When will importation occur of a good? When will importation occur of a good? Example: Importation of a Good Example: Importation of a Good omestic upply omestic upply * omestic emand omestic emand

6 When will importation occur of a good? Now, add an import tariff Example: Importation of a Good Example: Import ariff omestic upply omestic upply * W 1 4 Foreign upply omestic emand omestic emand Now, add an import tariff Now, add an import tariff Example: Import ariff Example: Import ariff omestic upply omestic upply W + W W + W omestic emand omestic emand omparing a tariff to a quota Let quota limit imports to 3-2 the equilibrium price would be the same as for the tariff and the (world) deadweight loss would be the same as well. Is there a difference? he quota generates no government revenue. Hence, while the total supply and total price for the domestic market remains the same under the two policies, domestic deadweight loss is larger under the quota. 1. n "invisible hand" guides the competitive market to the efficient level of production and consumption. 2. We obtained conclusion (1) for a single market only and under the assumption that price fully reflects all costs and benefits to the market and that there is perfect information. We will relax these assumptions in subsequent chapters. 3. he government policies we examined here all resulted in a deadweight loss compared to the perfectly competitive equilibrium

7 4. onclusion (3) is sensitive to the underlying market structure. We will examine non-competitive market structures in subsequent chapters. 5. Even though all policies resulted in a reduction in total surplus, each had a "constituency" in the form of consumers, producers or the government (effect on budget). If total surplus maximization is not the goal of policy-makers, each policy can be argued for on economic grounds. 37 7