ECO 201 Ch 4 Prices Free Controlled and Relative 1 Price a Price as a Rationing Device As a result of scarcity a rationing device is needed to determine who gets what of the available limited resources and goods Prices serves as a rationing device Price rations resources to the producers who pay the price for the resources and rations goods to the buyers who pay the price for the goods Dollar price is also an incentive for the producer to produce the goods In a world where dollar price isn t the rationing device people are likely to produce much less that in a world where dollar price is the rationing device b Price as a Transmitter of Information Price is a transmitter of information that often relates to the relative scarcity of a a price ceiling government mandated maximum price above which legal trade cannot be good 2 Price Controls made Effects of Price Ceiling shortage quantity demanded is greater than the quantity supplied Due to the price ceiling price cannot rise to equilibrium to eliminate the shortage Fewer exchanges due to the limited supply Price ceiling prevents mutually advantageous trades from being realized Non price rationing devices such as first come first serve Buying and selling at a prohibited price Buyers offer a higher than legal price to ensure they receive the goods they want tie in sales a sale whereby one good can be purchased only if another good is also purchased A buyer could prefer to pay a higher price equilibrium price than to pay a lower price and have to deal with the effects of a price ceiling Price ceilings prevent information about scarcity of a goods from getting through to consumers the correct b price floor government mandated minimum price below which legal trades cannot be the increased relative made Effects of Price Floor surpluses quantity supplied is greater than the quantity demanded Due to the price floor the price cannot drop to equilibrium Fewer exchanges due to the surplus in supply minimum wage government mandated minimum price for labor price floor for unskilled labor deadweight loss the loss to society of not producing the competitive or supply and demand determined level of output 3 Two Prices Absolute and Relative a Absolute Money Price and Relative Price absolute money price price of a good in money terms relative price price of good in terms of another good If the absolute price of a good rises and nothing else changes then its relative price rises too 1