IntroductionThe paper shall look at the laws of supply and demand as applied to three major categories i. e. price ceilings, positive externalities and taxes on luxury vehicles. The arguments will be based on case studies within the country and the results produced by them. Possible solutions to prevent market failures in each of the three categories will also be given. PART A- price ceilingsWhy governments impose price ceilings in a competitive market with illustration of its effects on a diagramPrice ceilings are defined as a maximum price that a government sets in order to ensure that market prices do not exceed a certain amount.
Usually, these maximum prices are set for suppliers. Their effectiveness depends on a selection of an amount that must be less than the free market price. There are a series of conditions that may necessitate the adoption of a price ceiling. For instance, in the event that an essential commodity’s price increases, then such a measure may be necessary. Examples her include rent caps that exist in certain parts of the world such as in New York - USA.
In other countries like the Ukraine, their governments have imposed price ceilings on gas prices. In other scenarios, countries have placed price ceilings on doctor’s fees. (Henderson, 2006)In order to understand how the price ceiling works, it is imperative to study the diagram below. It is a graph of price against quantity of goods sold Price Pe Pmax Pceiling Q2 Q1 Quantity of goodsA price ceiling must entail sound judgment on what this chosen price should be. Assuming that the price of a commodity without any government intervention is Pe, then a government introduces a ceiling price Pmax; such a move would create an excessive demand for the commodity from consumers represented by Q1 yet suppliers can only offer a quantity of goods corresponding to Q2.
This eventually leads to consumer surplus that emanates out of the existence of a higher demand (represented by the arrow in the diagram above) usually because the quantity of goods supplied is lower. Additionally, there is also a producer surplus that results when suppliers offer less than they would have in a free market.
When producer and consumer surpluses exist, then these total sums are known as dead weight losses. (Gills, 2008)Most often than not, a price ceiling may create effects that had not been intended. For instance, it may lead to rationing in case of market shortage. Here, suppliers may sell goods only to those individuals who report first or to those consumers that they know which leads to inequity. In other scenarios, it may result in the existence of a black market where commodities are sold at a higher price than the price ceiling.
Also, a price ceiling makes suppliers adjust their supply i. e. making the supply curve elastic. Case study of where price ceilings have been used and why the price ceiling was thought to be necessaryAn illustration of where the government applied price ceilings is within the housing sector during the nineteen eighties. At that time, the government sought to control the excessive increases in house costs while at the same time attempting to boost growth of this sector. It was anticipated that setting a maximum price would have protected consumers from unfair treatment by their landlords.
In other words, this was a mode of consumer protection. It was also estimated that the housing market had not yet grown sufficiently to operate without any form of regulation. In fact, the government treated it as a market in which imperfect competition existed. It was stated that the laws of competition were not applicable because there were some elements of monopoly within the market. Consequently, the UK government thought it necessary to set price ceilings for rent prices in order to curb such tendencies.