Effect of price ceiling on economic surplus

This article attempts to discuss the effects of a price ceiling on the social surplus. The reference point for studying these effects is a world without the price ceiling, where the price is the market price and the quantity traded is the equilibrium quantity traded at that market price.

In a world without the price ceiling, we have (assuming away external costs and external benefits):

social surplus in absence of price ceiling = (producer surplus in absence of price ceiling)+ (consumer surplus in absence of price ceiling)

We also have:

social surplus in presence of price ceiling = (producer surplus in presence of price ceiling)+ (consumer surplus in presence of price ceiling)

The goal is to ask the questions:

• How does the producer surplus in the presence of a price ceiling compare with the producer surplus in the absence of a price ceiling? If the values differ, what accounts for this difference?
• How does the consumer surplus in the presence of a price ceiling compare with the consumer surplus in the absence of a price ceiling? If the values differ, what accounts for this difference?
• How does the overall social surplus in the presence of a price ceiling compare with the social surplus in the absence of a price ceiling? If the values differ, what accounts for this difference?

General overview

Here, a binding price ceiling is one that is lower than the free market price.

Type of market structure	Effect on total social surplus of a binding price ceiling	Effect on producer surplus of a binding price ceiling	Effect on consumer surplus of a binding price ceiling
Perfectly competitive market	Lower than the free market, and decreases as the price ceiling decreases	Lower than the free market, and decreases as the price ceiling decreases	Ambiguous
Monopoly market with increasing marginal cost curve	Variable behavior: increases initially until the optimal price is reached, then decreases and equals the free market social surplus when it reaches the free market marginal cost	Decreases	Increases until the optima price is reached, ambiguous thereafter

Monopoly case with increasing marginal costs

Here we assume that the good being sold has no external costs or external benefits.

The discussion builds on the section Price_ceiling#Binding_price_ceilings_above_marginal_cost_at_the_pre-ceiling_level_of_production.

For some of the rows, we can draw definite conclusions only under the efficient allocation assumption: the buyers who acquire the good are those who value it most highly, and the non-price competition imposes no extra costs on buyers and sellers.

Price ceiling range	Social surplus compared to no price ceiling	Producer surplus compared to no price ceiling	Consumer surplus compared to no price ceiling	Direction of change of social surplus with decreasing price ceiling	Direction of change of producer surplus with decreasing price ceiling	Direction of change of consumer surplus with decreasing price ceiling	Qualitative comments
Greater than or equal to the free market price	Same	Same	Same	None	None	None	Deadweight loss is intact as the price ceiling has no effect
Less than the free market price and greater than the optimal price	More	Less	More	Increasing	Decreasing	Increasing	Deadweight loss due to monopoly is ameliorated by the price ceiling
Equal to the optimal price	More	Less	More	Maximized	Decreasing	Ambiguous	Deadweight loss is eliminated as perfect competition is emulated
Less than the optimal price and greater than the free market marginal cost	More (assuming efficient allocation), indeterminate otherwise	Less	More (assuming efficient allocation), indeterminate otherwise	Decreasing	Decreasing	Ambiguous	Deadweight loss is now no longer due to monopolistic pricing but rather due to price ceilings cutting off beneficial transactions
Equal to the free market marginal cost	Same (assuming efficient allocation), less otherwise	Less	More (assuming efficient allocation), indeterminate otherwise	Decreasing	Decreasing	Ambiguous	The quantity traded mimics that in the no-ceiling case, but the price at which the trades occur is lower. Assuming efficient allocation (i.e., the goods go to the buyers valuing them most highly), the social surplus is the same but it is distributed more to consumers. Without the efficient allocation assumption, total social surplus is down, with producer surplus down and the effect on consumer surplus indeterminate.
Less than the free market marginal cost	Less	Less	Starts out as more (assuming efficient allocation), may later becomes less. Without the efficient allocation assumption, indeterminate.	Decreasing	Decreasing	Ambiguous	Deadweight loss now exceeds that of monopoly, even under the efficient allocation assumption.