Price Ceilings

Price controls are government-enforced maximum or minimum prices set above or below the equilibrium price for goods or services within a market. A maximum price, known as a price ceiling, is enforced to keep prices affordable for consumers and to prevent price gouging. For instance, staple foods might have a price ceiling as they are necessities for households and must be affordable for all.

Price Ceilings and Market Efficiency

As shown by the model above, price ceilings are set below the equilibrium price. This means that prices are reduced which increases the quantity demanded of the product but lowers producers willingness to supply. Therefore, price ceilings produce shortages and decrease the size of the market as producers reduce the amount of output they supply or the quality of their goods. The reduced size of the market may allow for black market prices or illegal markets to form as an alternative for consumers who were unable to receive the goods they wanted - this is a large disadvantage of price ceilings.

Furthermore, as the price is set below the equilibrium, deadweight loss is produced as the market efficiency decreases. This is shown as producer surplus is reduced, and consumer surplus increases.

Summary

• It creates a shortage

• It produces deadweight loss (shown as DWL on the model.)

• It reduces market efficiency as producer surplus decreases.

• Producers will reduce the output and quality of the products as a result of reduced prices.

• Consumer surplus increases, however, due to the shortage some consumers may miss out on buying the product. This creates black market prices as a side effect.

Can price floors and ceilings exist at the same time?

For very volatile (unstable) products, such as crops that are subjected to the weather, may have both a price floor and a price ceiling. This ensures price stability, meaning that if crops fail, farmers cannot raise the price of fruit and vegetables so consumers cannot afford them. However, a price floor can exist to ensure that prices do not fall drastically, to ensure that farmers and workers still earn a stable income.