Econ 200: Lecture 6 October 14, 2014

Transcription

1 Econ 200: Lecture 6 October 14, Learning Catalytics Session: Economic Efficiency 2. Price Ceilings and Floors and Efficiency 3. Start Taxes (if time)

2 Reminder: Article Response Writing Assignments due this Friday! Places to look for news articles online: -Lexis Nexis -Proquest -Newsbank (All links can be found here: Article should be recent (since class began), related to a topic we ve covered and from an actual newspaper or magazine.

3 How Much Output is Efficient? Two ways of defining Economic Efficiency: 1. A market is efficient if all trades take place where the marginal benefit exceeds the marginal cost, and no other trades take place. 2. A market is efficient if it maximizes the sum of consumer and producer surplus (i.e. the total net benefit to consumers and firms), known as the economic surplus.

4 The Efficiency of Competitive Equilibrium Demand: Marginal Benefit of each cup Supply: Marginal Cost of each cup If Q too low MB>MC If Q too high MB<MC Only at the competitive equilibrium is the last unit valued by consumers and producers equally economic efficiency.

5 The Efficiency of Competitive Equilibrium Surplus At the competitive equilibrium quantity, the economic surplus (CS + PS) is also maximized! Our two concepts of economic efficiency result in the same level of output.

6 Economic Surplus if the Market is Not in Equilibrium Total economic surplus decreases by the sum of areas C and E.

7 Economic Surplus if the Market is Not in Equilibrium Deadweight Loss (DWL): The amount of inefficiency in a market. In competitive equilibrium, deadweight loss is zero.

8 Demand and Supply Equations Suppose that the demand for apartments in New York City is Q D = 4,750,000 1,000P and the supply of apartments is Q S = 1,000, ,300P In equilibrium, we know Q D = Q S (This is known as the equilibrium condition.) We use this to find the equilibrium rent and quantity: 4,750,000 1,000P = 450, ,300P 5,750,000 = 2,300P P = 5,750,000 / 2,300 = $2,500

9 Graphing the Equilibrium Find the equilibrium quantity of apartments rented: Q D = 4,750,000 1,000P = 4,750,000 1,000(2,500) = 2,250,000 or Q S = 1,000, ,300P = 1,000, ,300(2,500) = 2,250,000

10 Graphing the Demand and Supply Curves To complete the diagram, let s find the y-intercepts of the demand and supply curves: Q D = 4,750,000 1,000P 0 = 4,750,000 1,000P P = 4,750,000 / 1000 = $4,750 Q S = 1,000, ,300P 0 = 1,000, ,300P P = 1,000,000 / 1,300 = $769.33

11 Estimating the Consumer and Producer Surplus Now we can calculate estimated consumer and producer surplus: CS = ½(2.25)(4,750 2,500) = $ million PS = ½(2.25)(2, ) = $ million

12 Solve for the equilibrium price in the following market: P hourly wage S Qd=100-4P Qs=6P Pe Qe=?? D Qe Q workers per week

13 S P hourly wage Qe=60 workers per week Pe=$10/hour $10 D 60 Q workers per week

14 Calculate Consumer Surplus: S P hourly wage CS=?? $10 D 60 Q workers per week

15 Calculate Consumer Surplus: S P hourly wage CS=$450 $25 $10 D 60 Q workers per week

16 Price Ceilings and Price Floors Price ceiling: A legally determined maximum price that sellers can charge. Price floor: A legally determined minimum price that sellers may receive. Price ceilings and floors include: Minimum wages Rent controls Agricultural price controls

17 Price Floors: Agricultural Price Supports Pe=$3.00 Qe=2 billion bushels per year If wheat farmers convince the government to impose a price floor of $3.50 per bushel, quantity traded falls to 1.8 billion. Area A is the surplus transferred from consumers to producers. Economic surplus is reduced by area B + C, the deadweight loss.

18 Price Floors: It Gets Worse If farmers do not realize they will not be able to sell all of their wheat, they will produce 2.2 billion bushels. This results in a surplus, or excess supply, of 400 million bushels of wheat.

19 Price Ceilings: Rent Controls Pe=$1,500 per month. Qe = 2,000,000 apartments per month If the government imposes a rent ceiling of $1,000, what happens? Qs=1,900,000, but Qd=2,100,000, A shortage of 200,000 apartments.

20 Price Ceilings: the Effect of Rent Controls Producer surplus equal to the area of the blue rectangle A is transferred from landlords to renters. There is a deadweight loss equal to the areas of yellow triangles B and C. This deadweight loss corresponds to the surplus that would have been derived from apartments that are no longer rented.

21 The Results of Government Price Controls When a government imposes price controls, Some people win, Some people lose, and Deadweight loss (loss of total surplus) will generally occur. Economists seldom recommend price controls, with the possible exception of minimum wage laws. Why minimum wage laws? Equity effects more important than efficiency loss.

22 Rent Controls in the Market for Apartments Suppose the city imposes a rent ceiling of $1,500: Q S = 1,000, ,300P = 1,000, ,300(1,500) = 950,000 The price at which Qd=950k: Qd = 4,750,000 1,000P 950,000 = 4,750,000 1,000P P = 3,800,000 / 1,000 = $3,800

23 Computing Deadweight Loss Triangles B + C represent the deadweight loss. Area B is: ½ (2,250, ,000) (3,800 2,500) = $845 million Area C is: ½ (2,250, ,000) (2,500 1,500) = $650 million So the deadweight loss is = $1,495 million.

24 Computing the Change in Surplus for Consumers Consumers lose area B ($845 million) but gain the area of rectangle A: (2,500 1,500) (950,000) = $950 million So consumer surplus changes from $ million to: ( ) 845 = $ million

25 Computing the Change in Surplus for Producers Producers lose area A ($950 million) and area C ($650 million). They originally had a surplus of $ million, so now producer surplus is: ( ) = $ million

26 Calculate Consumer Surplus if a minimum wage of $12 per hour is imposed: P hourly wage S CS= $25 $12 D Qd Q workers per week

27 Calculate Consumer Surplus if a minimum wage of $12 per hour is imposed: P hourly wage S CS= $338 $25 $12 D 52 Q workers per week

28 What is the deadweight loss? P hourly wage S DWL=?? $25 $12 D 52 Q workers per week

29 S Hint P hourly wage $25 $12 P(Qs=52) D 52 Q workers per week