Question

Assume that the market for Good X is defined as follows: QD = 64 - 16P and QS = 16P - 8. If the government imposes a price ceiling at $1.00 in this market, what is the loss associated with this policy?

  

$64

  

$48

  

$25

  

$9

  

There is no loss because the restriction will have no effect.

Answer 1

Demand Function

Q = 64 - 16P

Supply Function

Q = 16P - 8

Equilibrium is achieved where demand and supply both are equal

Equating both demand and supply

64 - 16P = 16P - 8

32P = 72

P = 2.25

To find the equilibrium quantity we will use this price in any of the above two equations

Q = 16P - 8

Q = 16(2.25) - 8

Q = 28

At $1 quantity supply will be

Q = 16P - 8

Q = 16(1) - 8

Q = 8

At 8 units, price on the demand curve will be

Q = 64 - 16P

8 = 64 - 16P

P = 3.5

The reason we are finding these coordinates is to find the area of the shaded region.

In the above graph, the blue area represents deadweight loss hence the area of this triangle will be equal to deadweight loss.

Area = 1/2 x base x height

Area = 1/2 x 2.5 x 20

Area = 25

Hence the deadweight loss is $25

Third option is correct