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The effect of introducing price controls on the stakeholders


Key terms:

  • Price ceiling - a maximum P for a good established by the government at a level below the free market equilibrium P.

  • Price floor - a minimum P for a good established by the government at a level above the free market equilibrium P.

 

Diagram 1.


Graph of Market for masks in Spain in 2020

According to graph 1, initially market equilibrium was at Pe and Qe. The government of Spain implemented a price ceiling at Pc, which equals to 62 cents and located below equilibrium Pe. This change leads to increase in Qd and decrease in Qs —> shortage (excess demand: Qd-Qs). As P for masks decreases more consumers will buy more as willingness and ability increases, but for procedures willingness to produce decreases. Hence, this would lead to a lower supply and deadweight loss, which would lead to possible consequences for stakeholders.


Diagram 2.


Graph for market for alcohol in Scotland in 2018

According to graph 2, initial market equilibrium was at Pe and Qe. At Pf there is a minimum P, which is set by the government and located above equilibrium Pe. Now, in Scotland the price equals to 50 pence per unit. This change leads to increase in Qs and decrease in Qd —> surplus (excess supply: Qs-Qd). Since, as P increases less consumers are willing to buy more and producers have ability and willingness to produce more. Hence, this would lead to a lower supply and deadweight loss, which would lead to possible consequences.


 

First possible consequence is that the governments in Spain and Scotland are worse off . In Spain, demands for masks that consumers want to buy are at Qd, but producers are willing to produce only at Qs. This happens because producers can not produce more, because there is no incentive for them. As a result, there is not enough supply of masks that people want and they will start buying in the black market, where P is higher than in the original market. Therefore, this would lead to a shadow economy, since the government will not be able to collect taxes, as a result lower economic growth rates. In Scotland, because there is a price floor, it creates inefficient allocation of resources - Qs-Qs is a deadweight loss, which is never consumed. Producers' total revenue is increasing and they have incentive to supply corn at Qs, but consumers do not have willingness to buy at Qs, because of the high price and they buy only at Qd. Qs-Qs is a deadweight loss, which is never consumed.Price floor inhibits a market's ability to reach its equilibrium price and quantity. For the economy it is important to have efficient allocation of resources. The reason for that is because it affects economic growth. Inefficient allocation in Scotland leads to the economics being minimized. This leads to the decrease in the quality of the corn produced and productivity of the workers. Hence, misallocation of resources leads to market failure of corn in the USA.


Second consequence is that producers are worse off in case of price cap on masks in Spain and better off in case of price floor on alcohol in Scotland. Government of Spain decreases the price from Pe to Pc, because people need cheaper masks during COVID. This is a reason why firms produce at Qd, since they do not have incentive to produce more, which affects their total revenue. Therefore, producers are worse off, since price floor leads to decrease in their total revenue as consumers buy at lower P. In Scotland, the government increased the price on alcohol to Pf - 50 pence. This means that firms are willing to produce more. Also, it creates deadweight loss that is bad for the efficient allocation of resources, because consumers only buy at Qd. However, the government buys the rest of the alcohol to help their producers. Therefore, it leads to an increase in total revenue of the firms because producers are incentivized by higher revenues as price increases.


Third consequence is that consumers are partly worse off and better off in case of price cap on masks in Spain and worse off in case of price floor on alcohol in Scotland. The reason for why consumers are partly worse off in Spain is because producers supply masks only at Qs, since they don’t have incentive to supply more. It creates shortage, which means that not all consumers won’t be able to buy goods. They can not buy masks anywhere and they will buy them in the black market, where prices are higher. The reason why some consumers are better off is because of the lower price. During COVID, many people in Spain are affected in the sphere of jobs. Setting a maximum price by the government is made to help their nation to survive. Therefore, mostly consumers are better off than worse off in Spain, since they still have a chance to buy masks at Pc. Price floor that the government of Scotland put on alcohol means that P increases from Pe to Pf. It results that Qd decreases because bars, restaurants, or alcohol drinkers will buy less as willingness and ability decreases. Price floor initially made to help producers to increase their TR and because Scotland has the highest rate of alcohol-related deaths in the UK. Therefore, consumers are worse off, since they must pay more for lower quantity.


In conclusion, government interventions in markets, such as mask price caps in Spain and minimum alcohol prices in Scotland, have significant economic consequences. Such policies can have a wide range of consequences, affecting governments, producers and consumers in different ways. These consequences highlight the complex trade-offs that governments face when intervening in market dynamics.

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