Question

7. There are two types of price control - price ceiling and price floor. What happens in the market if there is a binding price control? In particular, what happens if there is a binding price ceiling? What about a binding price floor? Compare the quantity traded in the market in each situation to the equilibrium quantity without any price control. Is it higher, lower, or the same?

Answer 1

When there is a binding price ceiling then there is a limit on the maximum price set by the government which is below the equilibrium price. So, quantity supplied is smaller and quantity demanded is larger because of lower price.Thus, there is a shortage and quantity traded is lower than under the equillibrium because quantity demanded is smaller.

When there is a binding price floor then minimum price is being set by the government which is above the equilibrium price. So, quantity supplied is larger and quantity demanded is smaller because of higher price.Thus, there is a surplus and quantity traded is lower than under the equillibrium because quantity demanded is smaller.