Question

The market for milk is initially in equilibrium with a downward-sloping demand line and an upward-sloping supply line. The government imposes a binding price floor on milk. Which of the following is a consequence of the price floor?

(I) The price increases

(II) The quantity demanded decreases

(a) Only I.

(b) Only II.

(c) Both of them

(d) Neither of them.

Answer 1

ANSWER-

option c. Both of them

Price floor is the minimum price at which sellers may sell a particular good or service. Price floor is fixed by the government to assure suppliers a remunerative price for their products. A binding price floor is set ABOVE the Equilibrium price. Hence, PRICE will INCREASE. At a price above the Equilibrium price, the quantity demanded by buyers will DECREASE ( according to the law of demand quantity demanded increases as price falls and decreases as price increases) .

Hence, both ( I ) and ( II) are correct. As a result of an imposition of price floor which is set above the Equilibrium price, the PRICE OF MILK will increase which will lead to A DECREASED IN QUANTITY DEMANDED.

Option a is incorrect because not only ( I) but ( II) is also correct. As price will increase due to imposition of price floor, quantity demanded by buyers will decrease ( according to the law of demand)

Option b is incorrect because not only ( II) but (I) is also correct. A binding price floor is set above the Equilibrium price and hence price will INCREASE.