Intervention in the Market

Answer the following questions, following the instructions carefully. A. Assume that there is a competitive market for bread in your town. The supply and demand curves are provided in the following table. Price ($/loaf) Quantity Supplied (thousands of loaves per day) Quantity Demanded (thousands of loaves per day) 6 10 6 5 9 7 4 8 8 3 7 9 2 6 10 1 5 11 1. What is the equilibrium price of a loaf of bread, and how much bread is sold? 2. Suppose that the government decrees that bread will not be sold for more than $5 per loaf. What will be the price of bread? How much bread will consumers demand? How much will be supplied? Will there be a shortage of bread, a surplus of bread, or neither? Briefly explain your answers to each of these questions. 3. Suppose that the government decrees that bread will not be sold for more than $2 per loaf. What will be the price of bread? How much bread will consumers demand? How much will be supplied? Will there be a shortage of bread, a surplus of bread, or neither? Briefly explain your answers to each of these questions. B. Let’s consider the market for flour in a different town. Assume that it is efficient (i.e. that there are not external costs to producing flour, and no external benefits from consuming it). Price ($/lb) Quantity Supplied (thousands of lbs per day) Quantity Demanded (thousands of lbs per day) 1.5 8 14 2 9 13 2.5 10 12 3 11 11 3.5 12 10 4 13 9 1. What is the price and quantity of flour sold without government intervention. Graph this equilibrium. 2. Suppose that, alarmed by the inability of many poorer consumers to buy flour, the government institutes a $2/lb price ceiling. How much flour will suppliers wish to sell, and how much will buyers demand? How much flour will actually be sold? Show this outcome on the same graph you drew for question 1. 3. Describe, in one sentence each, three problems that this policy might create? Please do not simply copy down phrases from the textbook. 4. Would all consumers prefer the situation with the price ceiling to the situation described in part 1? Which consumers might prefer the price ceiling, and which might not? 5. Would suppliers be happier with or without the price ceiling? 6. Now, suppose that instead of a price ceiling, the government simply pays flour sellers a subsidy of $1/lb on flour sales. How much flour would be sold? How much would consumers now pay for flour? How much would producers be paid in total for each pound of flour sold? On a separate graph, depict the equilibrium from question 1, alongside the equilibrium with the subsidy. 7. Would consumers prefer the subsidy to the situation without government intervention? 8. Would suppliers prefer the subsidy to the situation without government intervention? 9. Given your answers, are price ceilings or consumer subsidies more likely to please producers and consumers? Why do you think some governments opt for price ceilings over subsidies?