Supply, demand, and government policies (KINH tế VI mô SLIDE)

Lecture Supply, Demand, and Government Policies MICROECONOMICS Overview Controls on prices  Price ceiling  Price floor Taxes • In a “free”, unregulated market system, market forces establish equilibrium prices and quantities • While equilibrium conditions may be efficient it may be true that not everyone, i.e buyer or seller are satisfied • Hence, market controls! 1.Controls on Prices Enacted when policy-makers believe that the market price is unfair to buyers and sellers Result in government policies, i.e price ceilings and floors 1.1 How price ceilings affect market outcomes Price ceiling: Legal maximum on the price at which a good can be sold – Not binding • Above the equilibrium price • No effect – Binding constraint • Below the equilibrium price • Shortage: Sellers must ration the scarce goods – The rationing mechanisms – not desirable Figure A market with a price ceiling Price of Ice Cream Cones (a) A price ceiling that is not binding Supply Price ceiling $4 Price of Ice Cream Cones Equilibrium price Supply Equilibrium price $3 (b) A price ceiling that is binding Price ceiling Demand Shortage Quantity supplied Equilibrium quantity 100 Quantity of Ice-Cream Cones Demand Quantity demanded 125 75 Quantity of Ice-Cream Cones Lines at the gas pump • 1973, OPEC raised the price of crude oil – Reduced the supply of gasoline – Long lines at gas stations • What was responsible for the long gas lines? – OPEC: created shortage of gasoline – U.S government regulations: price ceiling on gasoline • Before OPEC raised the price of crude oil – Equilibrium price - below price ceiling: no effect • When the price of crude oil rose – Reduced the supply of gasoline – Equilibrium price – above price ceiling: shortage Figure The market for gasoline with a price ceiling (a) The price ceiling on gasoline is not binding Price of (b) The price ceiling on gasoline is binding Price of Gasoline Gasoline S2 Initially, the price ceiling is not binding … Supply, S1 Price ceiling S1 P2 Price ceiling 3…the price ceiling becomes binding… P1 P1 …resulting in a shortage Demand Demand Q1 Quantity of Gasoline 2…but when supply falls… QS QD Q1 Quantity of Gasoline Panel (a) shows the gasoline market when the price ceiling is not binding because the equilibrium price, P1, is below the ceiling Panel (b) shows the gasoline market after an increase in the price of crude oil (an input into making gasoline) shifts the supply curve to the left from S to S2 In an unregulated market, the price would have risen from P1 to P2 The price ceiling, however, prevents this from happening At the binding price ceiling, consumers are willing to buy QD, but producers of gasoline are willing to sell only QS The difference between quantity demanded and quantity supplied, Q D – QS, measures the gasoline Rent control in the short run and the long run • Price ceiling: rent control – Local government - ceiling on rents – Goal: help the poor (housing more affordable) – Critique: highly inefficient way to help the poor raise their standard of living Rent control in the short run and the long run • People respond to incentives – Free markets • Landlords try to keep their buildings clean and safe • Higher prices – Rent control – shortages & waiting lists • Landlords lose their incentive to respond to tenants’ concerns – Tenants get lower rents & lower-quality housing 10 Figure How the minimum wage affects the labor market (a) A free labor market (b) A Labor Market with a Wage Binding Minimum Wage Wage Labor supply Labor supply Minimum wage Equilibrium wage Labor surplus (unemployment) Labor demand Labor demand Equilibrium employment Quantity of Labor Quantity demanded Quantity Quantity supplied of Labor 15 The minimum wage • Impact of the minimum wage – Workers with high skills and much experience • Not affected: Equilibrium wages - above the minimum • Minimum wage - not binding – Teenage labor – least skilled and least experienced • Low equilibrium wages • Willing to accept a lower wage in exchange for on-the-job training • Minimum wage – binding 16 1.3 Evaluating price controls • Markets are usually a good way to organize economic activity • Economists usually oppose price ceilings and price floors • Prices – coordinate economic activity 17 1.3 Evaluating price controls • Governments can sometimes improve market outcomes by price controls - because of unfair market outcome – Aimed at helping the poor – Often hurt those they are trying to help – Other ways of helping those in need • Rent subsidies • Wage subsidies 18 Taxes • Tax incidence – Manner in which the burden of a tax is shared among participants in a market • Tax polices – Taxes on sellers – Taxes on buyers 19 2.1 How taxes on sellers affect market outcomes • Immediate impact on sellers – Shift in supply – Supply curve shifts left – Higher equilibrium price – Lower equilibrium quantity – The tax – reduces the size of the market Figure A tax on sellers Price of Ice-Cream Cone Price buyers pay Price without tax Equilibrium with tax S2 S1 A tax on sellers shifts the supply curve upward by the size of the tax ($0.50) $3.30 Tax ($0.50) 3.00 Equilibrium without tax 2.80 Price sellers receive Demand, D1 90 100 Quantity of Ice-Cream Cones When a tax of $0.50 is levied on sellers, the supply curve shifts up by $0.50 from S1 to S2 The equilibrium quantity falls from 100 to 90 cones The price that buyers pay rises from $3.00 to $3.30 The price that sellers receive (after paying the tax) falls from $3.00 to $2.80 Even though 21 the tax is levied on sellers, buyers and sellers share the burden of the tax 2.1 How taxes on sellers affect market outcomes Taxes discourage market activity • Smaller quantity sold • Buyers and sellers share the burden of tax • Buyers pay more: Worse off • Sellers receive less – Get the higher price but pay the tax – Overall: effective price fall – Worse off 22 2.2 How taxes on buyers affect market outcomes Initial impact on the demand – Demand curve shifts left – Lower equilibrium price – Lower equilibrium quantity – The tax – reduces the size of the market 23 Figure A tax on buyers Price of Ice-Cream Cone Price buyers pay Price without tax Equilibrium with tax Supply, S1 Equilibrium without tax $3.30 A tax on buyers shifts the demand curve downward by the size of the tax ($0.50) Tax ($0.50) 3.00 2.80 Price sellers receive D2 90 100 D1 Quantity of Ice-Cream Cones When a tax of $0.50 is levied on buyers, the demand curve shifts down by $0.50 from D1 to D2 The equilibrium quantity falls from 100 to 90 cones The price that sellers receive falls from $3.00 to $2.80 The price that buyers pay (including the tax) rises from $3.00 to $3.30 Even though the 24 tax is levied on buyers, buyers and sellers share the burden of the tax 2.2 How taxes on buyers affect market outcomes – Buyers and sellers share the burden of the tax – Sellers get a lower price • Worse off – Buyers pay a lower market price • Effective price (with tax) rises • Worse off • Taxes levied on sellers and taxes levied on buyers are equivalent 25 Can congress distribute the burden of a payroll tax? • Payroll taxes – Deducted from the amount you earned • By law, the tax burden: – Half of the tax - paid by firms • Out of firm’s revenue – Half of the tax - paid by workers • Deducted from workers’ paychecks • Tax incidence analysis – Payroll tax = tax on a good • Good = labor • Price = wage 26 Can congress distribute the burden of a payroll tax? • Introduce payroll tax – Wage received by workers falls – Wage paid by firms rises – Workers and firms share the burden of the tax • Not necessarily fifty-fifty as the legislation requires • Lawmakers – Can decide whether a tax comes from the buyer’s pocket or from the seller’s – Cannot legislate the true burden of a tax • Tax incidence: forces of supply and demand 27 Figure A payroll tax Wage Labor supply Wage firms pay Tax wedge Wage without tax Wage workers receive Labor demand Quantity of Labor A payroll tax places a wedge between the wage that workers receive and the wage that firms pay Comparing wages with and without the tax, you can see that workers and firms share the tax burden This division of the tax burden between workers and firms does not depend on whether the government levies the tax on workers, levies the tax on firms, or divides the tax equally 28 between the two groups Who pays the luxury tax? • 1990 - new luxury tax – Goal: to raise revenue from those who could most easily afford to pay – Luxury items • Demand - quite elastic • Supply - relatively inelastic • Outcome: – Burden of a tax falls largely on the suppliers • 1993 – most of the luxury tax – repealed 29 ... poor raise their standard of living Rent control in the short run and the long run • People respond to incentives – Free markets • Landlords try to keep their buildings clean and safe • Higher... receive and the wage that firms pay Comparing wages with and without the tax, you can see that workers and firms share the tax burden This division of the tax burden between workers and firms... policy-makers believe that the market price is unfair to buyers and sellers Result in government policies, i.e price ceilings and floors 1.1 How price ceilings affect market outcomes Price