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Chapter 6: Markets (Taxes (Tax on sellers
•tax on sellers decreases…
Chapter 6: Markets
Rent ceilings
Rent ceilings tend to cause housing shortages which lead to:
Search activity:
•the time spent looking for someone to do business with; increases when a rent ceiling is placed
•opportunity cost of the house increases because of the search time spent finding a house
Black markets:
•an illegal parallel market
•price in a black market exceeds the legally imposed price ceiling
•black market rent is dependent on how strictly a rent ceiling is enforced. loose enforcement = blk market rent close to unregulated rent
loosely enforced rent ceiling -> market forces not strongly opposed by regulatory forces ∴can reach equilibrium
strongly enforced rent ceiling -> market forces strongly opposed by regulatory forces ∴can never reach equilibrium
•a rent ceiling set above the equilibrium price has no effect
•a rent ceiling set below the equilibrium price has a powerful effects on the market
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Short run supply curve
•show the change in quantity of housing supplied as rent change while number of houses remains constant
Long run supply curve
•show how the quality of housing supplied responds to change in price after enough time has passed for new houses to be built
-the equilibrium rent and quantity is determined by demand and short run supply
Price floor
a price floor is a regulation that makes it illegal to trade at a price lower than the specified level
-a price floor applied to labour markets is called minimum wage
Price floor above equilibrium wage -> surplus ∴market forces opposed
Price floor below equilibrium wage -> shortage ∴market forces not opposed
if minimum wage is set below the equilibrium wage, the wage has no effect on the labour market
•if minimum wage is set above the equilibrium wage, the wage is in conflict with market forces and has some effects on the labour market
NB: these forces are only felt if the price floor is enforced strongly
Inefficiency of minimum wage
•in an unregulated market, the market allocates the scarce labour resources accordingly (everyone who is willing to work gets a job)
•minimum wage frustrates market mechanism ∴unemployment, wasted labour resources and an inefficient amount of job search
Taxes
Tax on sellers
•tax on sellers decreases supply (imagine it as an extra cost to a supplier)
-to determine the new position of the supply curve after tax, you add the tax to the minimum price that suppliers are willing to accept for each quantity sold
Tax on buyers
•tax on buyers reduces buying power (lowers the amount they are willing pay the seller)
•reduces demand and shifts the demand curve leftward
•to determine new position demand curve, subtract the tax from the maximum price that buyers are willing to pay for each quantity bought
Tax incidence
•the division of the burden of tax between the buyer and seller
•this division depends on the elasticities of demand and supply
-Price inelastic demand - buyers pay
-Price elastic demand - sellers pay
-Price inelastic supply - sellers pay
-Price elastic supply - buyers pay
How to calculate tax incidence:
Buyers incidence: (Ppaidaftertax−Ppaidbeforetax) ÷ Taxvalue
Sellers incidence: (Preceivedaftertax - Preceivedbeforetax) ÷ Taxvalue
•use absolute values (no negative numbers)
•tax incidence measures who has the higher burden of tax, buyers or sellers?
Taxes and fairness
Ability to pay principle
-proposition that people should pay taxes according to how easily they can bear the burden of the tax
Benefits principle
-proposition that people should pay taxes equal to the benefits they receive from the services provided by government
Subsidies and quotas
•Subsidy: payment made by government to a producer
•Production quota: upper limit to the quantity of a good that may be produced in a specific period
-if production quota below equilibrium -> has inefficiencies
-if production quota above equilibrium -> can reach equilibrium
Markets for illegal goods
•when a good is illegal, the cost of trading the good increases
Penalties on sellers
•drug face huge penalties if they're caught
•these penalties form part cost of supplying drugs ∴ decrease in supply (demand curve shifts leftwards)
Penalties on buyers
•cost of breaking the law must be subtracted from the value of the good to determine the max price buyers are willing to pay for drugs
Penalties on suppliers and buyers
•if penalties are imposed on both suppliers and buyers, both supply and demand decrease
•the larger the penalties and the greater the law enforcement, the larger the decrease
in the labour market, supply curve measures the marginal social cost of labour to workers
demand curve measures the marginal social benefit from labour (the value of the goods and services produced)