Question

1. What is a price ceiling and when does it becomes binding and non binding? Also provide an example.
2. What is a price floor and when does it becomes binding and non binding? Also provide an example.

Answer 1

A price ceiling is a maximum limit imposed on the price of a particular good or service beyond which it cannot be increased. When the ceiling price is below the market price, it is binding because it cannot be increased to reach the market price. It is otherwise nonbinding when market price lies below it. It results in a shortage of that particular good because the quantity demanded is greater than the quantity supplied. Price ceiling is most common in rental accommodation where apartment rent is often controlled.

A price floor is a minimum price imposed in the market of a particular good or service below which the product cannot be sold. it is binding when the price floor is a set above the market price so that it cannot fall below. This results in a surplus because the quantity demanded is less than the quantity supplied. It is most common in labour market where are minimum wage is set above the market prevailing wage rate.