Question

Assume that an effective government-imposed price on a particular good. The price is set below equilibrium. Now, the imposed price is removed.

True, False, or Uncertain: Consumer spending on the good will increase only if demand is inelastic. Explain your answer.

Answer 1

In this instance, the government has ideally imposed a price ceiling in the market which is set below the market equilibrium level at which the quantity demanded of the concerned product or service by the consumers or buyers is equal to its quantity supplied by its sellers, suppliers, or producers. Now, considering the concerned product or good as a normal good/product, in this case, a price ceiling would presumably create a shortage in the market as at the government imposed price below the market equilibrium the suppliers or sellers would not be willing to supply as much as the quantity demanded of the concerned product or good. As the government removes the price ceiling from the market, a higher quantity demanded of the product or good than its quantity supplied in the market would exert upward pressure on the market price causing the product or good price to consequently increase and approach the market equilibrium position. Now, an inelastic demand signifies that the quantity demanded of the concerned product or good is relatively unresponsive or insensitive towards the change in the product or good price in the market. If the demand for the concerned product or good is inelastic in this case, it essentially construes that as the market price of the concerned good or product inceases and approaches market equilibrium position, the total consumer spending or expenditure on the good or product also increases and if the demand is elastic the opposite relationship between the price and consumer spending/expenditure regarding the concerned good or product would be effective in the market. Therefore, inelastic demand for the product or the good essentially implies an increase in consumer spending or expenditure on the good or product as its market price increases and reaches the equilibrium level following the removal of the government-imposed price ceiling in this instance. Hence, the answer, in this case, would be true.