Price Ceiling

Topics: Supply and demand, Pricing, Equilibrium Pages: 2 (349 words) Published: May 3, 2013
ADRIANO, Ergieson B.ECON 2023

BSA 3-1D

3-14 (Key Question) Refer to the table in question 8. Suppose that the government establishes a price ceiling of $3.70 for wheat. What might prompt the government to establish this price ceiling? Explain carefully the main effects. Demonstrate your answer graphically. Next, suppose that the government establishes a price floor of $4.60 for wheat. What will be the main effects of this price floor? Demonstrate your answer graphically.

Answer:
At a price of $3.70, buyers will wish to purchase 80,000 bushels, but sellers will only offer 73,000 bushels to the market. The result is a shortage of 7,000 bushels, because demand exceeds supply. The ceiling prevents the price from rising to encourage greater production, discourage consumption, and relieve the shortage. See the graph on the attached graphing paper.

At a price of $4.60, buyers only want to purchase 65,000 bushels, but sellers want to sell 79,000 bushels, resulting in a surplus of 14,000 bushels in effect that supply is over demand. The floor prevents the price from falling to eliminate the surplus. See the graph on the attached graphing paper.

3-16 Advanced analysis: Assume that the demand for a commodity is represented by the equation P = 10 - .2Qd and supply by the equation P = 2 + .2Qs, where Qd and Qs are quantity demanded and quantity supplied, respectively, and P is price. Using the equilibrium condition Qs = Qd, solve the equations to determine equilibrium price. Now determine equilibrium quantity. Graph the two equations to substantiate your answers.

Answer:
Demand is P = 10 – 2Qd
Therefore 5P = 50 – Qd and Qd = 50 – 5P

Supply is P = 2 + 2Qs
Therefore 5P = 10 + Qs and Qs = –10 + 5P

Substitute Qd and Qs into Qs = Qd equilibrium condition
50 – 5P = –10 + 5P
60 = 10P and 6 = P

Now substitute P = 6 in either Qd or Qs to determine equilibrium quantity. Qd = 50 – 5P = 50 – 5(6) = 20
or
Qs = –10 + 5P = –10 + 5(6) = 20

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