Question

1. In order to find out how goods X and Y are related, which type of elasticity should we use?

2. The equilibrium price in a market is $15. A $10 price ceiling is imposed in this market.

Will consumer surplus increase or decrease?
Will producer surplus increase or decrease?
Will total surplus increase or decrease?
Will deadweight loss increase or decrease?

3. If firms develop market power and raise prices of their products, we expect total surplus to increase/decrease. (Circle correct answer.)

Answer 1

1) In order to check how goods are related we use the Cross elasticity between goods.

Cross elasticity = % change in quantity demanded of X / % change in price of Y.

Price ceiling will Increase Consumer surplus. Before price ceiling consumer surplus was area A+B+E. After price ceiling consumer surplus is area A+B+C. A+B+C is higher than A+B+E because it is clearly seeing that C is higher than E.

2) Price ceiling will decrease producer surplus. Before price ceiling producer surplus was D+C+F. After price ceiling producer surplus is area D only.

3) Total surplus will decrease. Before price ceiling total surplus was area A+B+C+D+E+F.

After price ceiling total surplus is area A+B+C+D.

4) Dead weight loss will increase. Before price ceiling there was no dead weight loss but after price ceiling dead weight is area E+F.

3) If firms develop market power and raise prices of their products, we expect total surplus to Decrease.

Because perfect competition have zero dea weight loss and as the market power increases dead weight loss increases which decreases the total surplus. Market power will increase the producer surplus but decrease the consumer surplus and create the dead weight loss.

#Please rate positive...thank you