Question

1. Use numbers and a S-D diagram.

Supply and Demand for balloon rides.

Quantity Demanded	Price	Quantity Supplied
40	$50.00	0
35	$100.00	10
30	$150.00	20
25	$200.00	30
20	$250.00	40
15	$300.00	50

a. Graph the Supply and Demand curves on graph paper, label everything. Find the equilibrium price and quantity using your graph.

b. Let’s evaluate a price cap on balloon rides at $100 per ride. Use your graph and the table to find the new price and quantity in this market. Then, explain who is helped by the policy and who is hurt, using numbers in your sentences.

2. Reproduce the same S-D diagram for balloon rides, but this time shade and label the areas of consumer surplus (CS) and producer surplus (PS). Use at least half a page for the graph. Label the areas with numbers and explain who gains and loses each area. Show the deadweight loss of the price control on the graph and explain in words.

3. Let’s think about some possible complications that might be caused by this price control on balloon rides. If price ceilings cause shortages (they do), then how might market participants respond to those shortages. What else might the government need to do? Can you think of some other side effects created by price controls?

Answer 1

1. a & b

before price cap orginal equilibrium is at price = 26.5 and quantities = 175

after price cap price is 100 quantity supplied is 10 and quantity demanded is 35 so, there is a shortage of demand. Hence, by this price cap producer gets hurt mostly and consumer gain because at this price producer is not ready to produce and supply but at this similar price cosumer demand more since baloon rides becomes cheap.

2. before price cap C.S. is area ACE and producer surplus is CDE.

after price cap of 100 dollar C.S becomes area AGHI and P.S is area GHD. moreover there is DWL i.e. area HIE.

therefore from the graph we can see that consumer gain and producers looses.

3. when there is price cap then producer cannot increase their price of output regularly beyond that threshold. if otherwise they try to do that then there will be some complication arises like govt. interference occur which result in their cancellation of license. However with this price cap consumer benefited more because now even poor ones can purchase that item and gain utility from it but one thing we should keep in mind that producer reduces its supply which create shortage in the demand.

side effects of price cap(price ceiling) are as follows:

a. shortage

b. government rationing and queing

c. black marketing

d. degradation of quality