Price ceiling: Difference between revisions
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===Binding price ceiling: price ceilings create excess demand when they are below the market-clearing price=== | ===Binding price ceiling: price ceilings create excess demand when they are below the market-clearing price=== | ||
If the price ceiling is below the [[market price]], demand for the good exceeds supply for the good, resulting in a situation of scarcity or [[excess demand]]. The market usually handles such situations either by creating a [[black market]] or through [[non-price competition]], both of which are prone to inefficiencies. A price ceiling that is below the market price is termed a ''binding price ceiling''. | If the price ceiling is below the [[market price]], demand for the good exceeds supply for the good, resulting in a situation of scarcity or [[excess demand]]. This could result in a [[deadweight loss]] that takes the shape of a [[Harberger's triangle]], so named because the loss can be measured as the area of a triangle formed by the [[demand curve]], [[supply curve]], and the price line for the price ceiling. | ||
The market usually handles such situations either by creating a [[black market]] or through [[non-price competition]], both of which are prone to inefficiencies. A price ceiling that is below the market price is termed a ''binding price ceiling''. | |||
==Related notions== | ==Related notions== | ||
* [[Maximum retail price]] is an upper limit that the producer or wholesale distributor puts on the price at which retailers can sell the commodity to customers. Maximum retail prices do not usually have the inefficiencies associated with price ceilings, because producers of the goods can vary maximum retail prices according to demand trends over the somewhat longer term. | * [[Maximum retail price]] is an upper limit that the producer or wholesale distributor puts on the price at which retailers can sell the commodity to customers. Maximum retail prices do not usually have the inefficiencies associated with price ceilings, because producers of the goods can vary maximum retail prices according to demand trends over the somewhat longer term. | ||
Revision as of 22:51, 14 November 2009
Definition
A price ceiling is an upper limit placed by the government or a regulatory authority with government sanction on the price (per unit) of a commodity.
A price ceiling is a form of price control. The other form of price control is a minimum price.
Effects
Non-binding price ceiling: price ceilings have no effect when they are above the market-clearing price
A price ceiling that is set above the market price of the commodity has no direct effect. Such price ceilings may be put in place to prevent price gouging in the event of an emergency (not currently happening) or to prevent rapid fluctuations in prices due to other unforeseen circumstances. A price ceiling that is above the market price is termed a non-binding price ceiling.
Non-binding price ceilings may have indirect effects: for instance, they may make new sellers reluctant to enter the market for fear that the price ceiling might become binding at some later stage due to fluctuation in market prices, and they may also reduce the incentives to invest in new products that are different are more expensive but may fall under the same regulatory category.
Binding price ceiling: price ceilings create excess demand when they are below the market-clearing price
If the price ceiling is below the market price, demand for the good exceeds supply for the good, resulting in a situation of scarcity or excess demand. This could result in a deadweight loss that takes the shape of a Harberger's triangle, so named because the loss can be measured as the area of a triangle formed by the demand curve, supply curve, and the price line for the price ceiling.
The market usually handles such situations either by creating a black market or through non-price competition, both of which are prone to inefficiencies. A price ceiling that is below the market price is termed a binding price ceiling.
Related notions
- Maximum retail price is an upper limit that the producer or wholesale distributor puts on the price at which retailers can sell the commodity to customers. Maximum retail prices do not usually have the inefficiencies associated with price ceilings, because producers of the goods can vary maximum retail prices according to demand trends over the somewhat longer term.