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CHAPTER9THE ANALYSISOF COMPETITIVEMARKETSTEACHING NOTESWith the exceptionof Chapter1,Chapter9is themost straightforwardand easilyunderstoodchapter in the text.The chapterbegins with a reviewof consumer and producer surplus.If youhavepostponed thesetopics,you shouldcarefully explain the definitionof eachrefer toteaching suggestionsinChapters4and
8.While Section2discusses efficiencyin competitivemarkets bycomparingcompetitive outcomeswith thoseunder marketfailure,more analyticdiscussion ofefficiency isleft forChapter
16.REVIEW QUESTIONS
1.Deadweight lossrefers to the benefitslost toeither consumersor producerswhen marketsdo notoperateefficiently.The termdeadweight denotesthat theseare benefitsunavailable toany party.Forexample,an effective price ceilingreduces the price belowthe market equilibrium price.This policycausesa lossof bothconsumerand producer surpluses.Consumer surplusdecreases becauseless ispurchasedand producersdo notcapture allof thisdecrease.Producer surplusdecreases becauseless isproducedand consumersdo notcapture allof thisdecrease.Surplus notcaptured bymarket participantsisdeadweight loss.
2.When the supply curve is completelyinelastic,the impositionof aneffectiveprice ceiling transfersallloss in producer surplusto consumers.Consumer surplus increases by the difference between themarket-clearing price and the priceceilingtimes the market-clearing quantity.Consumers capturealldecreases intotal revenue.Therefore,no deadweight loss occurs.
3.If the supply curvewas perfectlyinelastic and demand increases,a priceceiling willincreaseconsumer surplus.If the demand curveis inelastic,price controlsmay resultin anet lossof consumer surplus becauseconsumerswilling to pay ahigher priceare unableto purchasethe price-controlled goodor service.Theloss ofconsumersurplusis greaterthan thetransfer ofproducer surplusto consumers.However,if demandis elasticand supply is relativelyinelastic consumers in theaggregate willenjoyan increase in consumersurplus.
4.Because ahigher priceincreases revenueand decreasesdemand,some consumersurplus istransferredto producersbut someproducer revenueis lostbecause consumerspurchase less.Theproblem witha pricefloor orminimum priceis thatit sendsthe wrongsignal to producers.Thinking thatmoreshould beproduced as the pricegoes up,producers incurextra cost toproducemore thanwhatconsumers arewilling topurchase at these higher prices.These extracosts canoverwhelm gainscapturedin increasedrevenues.Thus,unless allproducers decreaseproduction,a minimumprice canmakeproducers as a wholeworse off.
5.Municipal authoritiesusually regulatethe numberof taxisthrough theissuance of licenses.When thenumberof taxisis belowthat whichit would be withoutregulation,those taxisin the market maychargea higher-than-competitive price.State authoritiesusually regulatethe numberof liquorlicenses.By requiringthat anybar orrestaurantthat servesalcohol have a liquorlicense and then limitingthe numberoflicensesavailable,the Statelimits entryby newbars andrestaurants.This limitationallows thoseestablishments thathavelicenses tocharge ahigherpricefor alcoholicbeverages.Federal authoritiesusually regulatethe numberof acresof wheator cornin productionby creatingacreagelimitation programsthat givefarmers financialincentives toleave someof theiracreage idle.This reducessupply,driving upthe price of wheator corn.
6.Price supportsand acreagelimitations costsociety morethan thedollar costof theseprogramsbecause lessoutput isproduced,driving pricesabove competitivelevels.This smalleroutput decreasesconsumersurplus andleads todeadweight loss.Note:This lossdoes notinclude paymentsto farmers,because thesepayments onlyredistribute thesurplus fromnon-farmers tofarmers.Thus,there isno losstosociety as a wholefrom thetransfer ofsurplus.
7.Changes indomestic consumerandproducer surpluses arethe sameunder import quotas andtariffs.There will be a loss indomestic totalsurplusineither case.However,witha tariff,the governmentcancollect revenueequal to the tarifftimes the quantity of imports and these revenuescan beredistributed inthe domestic economyto offset the domesticdeadweight lossby,for example,reducing taxes.Thus,there is less of a lossto the domestic societyasawhole.With theimport quota,foreign producerscancapture the difference between the domesticand world price timesthe quantityofimports.Therefore,with animportquota,there isa lossto the domestic societyasawhole.If thenational government istrying toincrease welfare,it shoulduse a tariff.
8.The burdenof atax andthe benefitsof asubsidy dependon theelasticities of demand and supply.Ifthe ratio of the elasticity of demand to the elasticity of supplyis small,the burdenof the tax fallsmainlyon consumers.On theother hand,if the ratioof the elasticity of demand to the elasticity of supplyislarge,the burdenof the tax fallsmainly onproducers.Similarly,the benefitof asubsidy accruesmostly toconsumersproducers iftheratioof theelasticity ofdemand to theelasticity of supplyis smalllarge.EXERCISESa.In afree-marketequilibrium,Ls=LD.Solving yieldsw=$4and Ls=LD=
40.If theminimum wageis$5,then Ls=50and LD=
30.The numberof peopleemployed will be givenby thelabor demand,soemployers willhire30million workers.b.LD=80-10w-1=90-lOw,where wrepresents the wage received by the employee.The newequilibrium willbe givenby theintersection of the oldsupply curvewith the new demandcurve:Therefore,90-10**=10w w
9.a.To findthe equilibrium priceand quantity,equate supply and demand and solve for Q啦Substitute QQ into either thedemand equation or the supply equationto obtainPEQ.EPEQ-10-7=3,orPEQ=7-4=
3.b.P=9-Q.The newequilibrium quantity is foundin the same wayas in2a:9-Q二Q・4,or QTo determine the price thebuyer pays,Pg,substitute Q*into thedemand equation:To determinethe pricethe sellerreceives,,substitute Q*into the supply equation:c.The originalsupply curvefor widgetswas P-QP=Q-
5.To obtain thenewequilibrium quantity,setthenew supply curve equal tothedemand curve:Q-5=10-Q,or QThebuyer paysP
10.S,and domestic demand,D.P is the subsidizedprice,P is the pricepaid by the buyers,and P^iss BEthe equilibrium price withoutthe subsidy,assuming no imports.With thesubsidy,buyers demandFarmers gain amountsequivalent to areas Aand B.This is the increaseinproducersurplus.Consumers gainareas Cand F.This is the increasein consumersurplus.Deadweight loss is equal to theareaE.The governmentpays asubsidy equal toareas A+B+C+F+E.P is the worldprice,and PQ is the equilibriumprice.Withthe tariff,assumed tobe equal to PQ-P,w EE wbuyersdemand Q,farmers supplyQ，and Q-Q isimported.Farmersgaina surplusequivalent toareaT TDA.Consumers loseareasA,B,C;this isthe decreasein consumersurplus.Deadweight lossis equalto theareas B and C.Without moreinformation regardinggovernment policy,it seemssensible toassume thatthe Japanesegovernmentwould avoidpaying subsidiesby choosingatariff,but therice farmerswould preferthesubsidy.
11.a.Equating demandandsupply,Q0二Q;28-2P=4+4P,or P=
4.To determinethe equilibrium quantity,substitute P=4into eitherthesupplyequationorthedemand equation:andQ°=28-24=
20.b.Because thefree marketsupply byfarmers is20billion bushels,the25percent reductionrequired bythenew Payment-In-Kind PIKProgram wouldimply thatthe farmersnow produce15billion bushels.To encouragefarmers towithdraw theirland fromcultivation,the governmentmust givethem5billionbushels,which theysell on themarket.Because the total supplytothemarket isstill20billion bushels,themarket price doesnot change;itremains at$4per bushel.The farmersgain$20billion,equalto$45billion bushels,from thePIKProgram,because theyincur nocosts insupplying the wheat which they receivedfrom thegovernmentto themarket.The PIK program doesnot affectconsumersin the wheatmarket,because theypurchasethe sameamount atthe sameprice asthey didin thefree marketcase.c.Taxpayers gainbecause thegovernmentisnot requiredto storethe wheat.Although everyoneseems togainfrom thePIKprogram,it canonly lastwhile thereare governmentwheat reserves.The PIKprogramassumes thatthe landremoved fromproduction maybe restoredto productionwhen stockpilesareexhausted.If thiscannot bedone,consumers mayeventually paymore forwheat-based products.Finally,farmers aretaxpayers too.Since producingthewheatmust havecost something,the programoffers themawindfall profit.5・a.b.
6.a.P=a+bQ,Db,is equaltothe“rise”divided by the“run,”Second,we substitutefor ba:V10,or a=
20.ATherefore,P=20——Q.Inverting toobtain thedemand curvein itsusualD12form:Q=40・2P.Similarly,we maysolvefor thesupplyequation:，尸=c+dQsThe slope,d,is6-334-2~2,Solving for c:6=C+4,orc=
0.Therefore,P——Q.Inverting toobtain thesupply curvein itsusual form:sQs=.ob.The price elasticityofdemand,E,is equaltoD△QoHere,-------a,at P=9,Q=
22.Substituting intothe equationfor elasticityofdemand:DAPTo determinetheelasticityofdemandat尸二12,Q=16,follow thesame procedure:nc.The priceelasticityofsupply,E,is equaltos△Qq2八Here,.......——.At尸=9,Q=
6.AP3$Substituting intothe equationfor theelasticityofsupply:At a price of12,the quantity supplied is equalto
8.Substituting intothe formulafortheelasticity ofsupply:d.price willbe$15the domesticequilibriumprice,and there willbe noimports.Because thereare noimports,there isno revenue.The deadweightlossis equal towhere16isthe difference ataprice of$9between22demanded and6supplied,and$6isthedifferencebetween$15and$
9.The costof the quota to consumers isequaltothe area of the trapezoid ABCEThegain to domestic producers isequaltotheareaof thetrapezoidAGFE.Therefore,total domesticproducer gainis
7.a.With a$9tariff,the price of theimported metalon marketswouldbe$18,the tariffplus the worldprice of$
9.To determinethe domesticequilibriumprice,equate domesticsupplyanddomestic demand:2—P=40-2P,or P=$
15.The equilibriumquantity isfound bysubstituting aprice of$15into eitherthedemandor supplyequations:and25=f1115=
10.The equilibriumquantity is10million ounces.Because thedomestic price of$15islessthan the worldprice plusthetariff,$18,there willbe noimports.b.0n・QS=
8.Todeterminethedomesticprice of the metal,set Q0-QS=8and solvefor P:40-2P--P=8,orP=$
12.At apriceof$12,Q0=16and QS=8;thedifferenceof8million ounceswillbesupplied byimports.
8.a.Section--------------,where Eistheown-priceelasticityofsupplyand Eistheown-prices DES-EDelasticity ofdemand.Substituting forE andE,the pass-through fractioniss DTherefore,95percent of thetaxis passedthrough tothe consumersbecause supplyis relativelyelasticand demandis relativelyinelastic.b.With anincreaseinthe priceof liquorfrom thelarge pass-through ofthe liquortax,consumers willsubstituteaway fromliquor tobeer,shifting thedemand curvefor beeroutward.With aninfinitelyelastic supplyfor beera perfectlyflat supplycurve,therewillbenochange inthe equilibriumprice ofbeer.Qs=14+2P PandG0QD--5PG尸O，where P isthepriceofgas and P isthepriceof oil.G oWiththepriceof oilat$12per barrel,these curvesbecome,Qs=17+2P andGQD~45-5PG.Setting quantity demanded equalto quantitysupplied,17+2P=45-5P,or P=$
4.G GGAt thisprice,the equilibriumquantity is25thousand cubicfeet Tcf.If aceiling of$1is imposed,producers wouldsupply19Tcf andconsumers woulddemand40Tcf.Consumers gainarea A-BA-CC+B
9.a.We aregiven theequations forthe totalmarket demandfor sugarintheandthesupply ofproducers:QDQsThe differencebetweenthequantitydemandedand supplied,Q-Q,istheamount of sugar importedDswhich isrestricted bythequota.If thequota isincreased from3billion poundsto4billion pounds,then wewill haveQ-Q=4and weDscan solvefor Qand Pfrom:sQsSoandQsQD二Qsb.Numerically:These numbersare inbillions ofcents ortens ofmillions ofdollars.c.Numerically:
10.a.At aprice P=22cents perpound,thequantitydemanded Qthe restoftheanswer.DSb.We nowcompare thecurrent casewith thefree marketequilibrium wherethepriceofsugarintheisequal totheworldpriceof12cents perpound.The extracosttoconsumers isthe lossin consumersurpluswhich isrepresented bythe areasA throughD.The benefittodomesticproducersisthe increaseinproducersurpluswhich isrepresented by area A.The profitsoftheforeign producersincrease byanamount representedbyareaD.Finally,the deadweightloss associatedwith thecurrent outcomeisrepresented byareasBandC.Numerically:These numbersare inbillions ofcents ortens ofmillions ofdollarsThe increasein foreignproducersurplusis25or$250million.
12.To analyzethe influence ofatariff on thedomestichula beanmarket,start bysolving fordomesticequilibrium priceandquantity.First,equate supplyanddemandto determineequilibriumquantity:50+Q=200-2Q,or Q=
50.EQThus,the equilibriumquantityis50million pounds.Substituting QQ equals50intoeitherthesupplyorEdemand equationto determineprice,we find:P=50+50=100,andsP=200-250=
100.DThe equilibriumprice Pis$1100cents.However,theworldmarketpriceis60cents.At thisprice,thedomesticquantitysuppliedis60=50-Qs，or Q=
10.sSimilarly,domestic demandattheworldpriceis60=200-2Qo,or Q=
70.DImports areequaltothedifferencebetween domesticdemandandsupply,or60million pounds.IfCongress imposesatariffof40cents,the effectivepriceofimports increasesto$
1.At$1,domesticproducers satisfydomesticdemandand importsfall tozero.alossof$24million.Domestic profitisequalto totalrevenue minustotal cost.Before thetariff,TR-$6million.TCand therest isdeadweightloss:
13.If thelabor marketis competitive,that is,both employersand employeestake thewage asgiven,then shiftingan equaltax amountfrom theemployee tothe employerwill haveno effectontheamountof laboremployed andonthewage keptbytheemployee after taxes.The equilibriumamount oflaboremployed isdetermined bythetotalamount oftax paid by bothemployees andemployers.This isrepresentedbythedifferencebetweenthewagepaidbythe employer andthewage receivedby theemployee.As longasthetotal taxdoesnt change,thesameamount oflabor isemployed andthe wagespaidbytheemployerandreceivedbytheemployeeaftertaxwill notchange.Hence,employees wouldbeno betteror worseoff ifthe employerspaid thefull amountofthesocial securitytax.
14.For productswith demandcharacterized bya stockadjustment process,the short-run demand curveis moreelastic than the long-run demandcurve because consumers candelay theirpurchases ofthesegoods inthe shortrun.For example,when pricerises,consumers maycontinue usingthe olderversion oftheproduct,whichtheycurrently own.However,inthe long run,a newproduct willbe purchased.Thus,the long-run demandcurveis more inelasticthanthe short-run one.Consider theeffect ofimposing a20percent salestax onautomobiles intheshortand long run.Toanalyze theinfluenceofthetax,we canshift thedemand curvesbecauseconsumersare forcedtopayahigher price.Notice thatthis taxis anad valoremtax.The demandcurve doesnot shiftparallel tothe oldones,but pivotsto reflectthe highertax paidper unitat higherprices.P isthe consumersprice,P isthe producersprice,andP-Pisthe valueofthetax.Intuitively,wec sc smayassume consumershaveamore inelasticdemandcurveinthe longrun.They areless ableto adjusttheirdemandtoprice changesand mustcarry alarger burdenofthetax.In bothfigures,thesupplycurveis thesame inthelongand shortrun.If thesupplycurveismoreelastic inthelongrun,then evenmore ofthetax burdenis shiftedtoconsumers.Short RunLongRunIn FiguresShortRunFigureLong Run。
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