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# Macro ch06-presentation6e(2012)

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• This chapter builds on the previous two (supply &amp; demand, elasticity). Students who learned those chapters well usually do not have much difficulty with the material in Chapter 6. This chapter can usually be covered in about 90 minutes of class time. I have combined the analysis of price ceilings with the rent control example, and I’ve combined the analysis of price floors with the minimum wage example. (In contrast, the textbook presents a generic analysis of price ceilings, then the rent control example, then a generic analysis of price floors, then the minimum wage.) Most students learn new concepts better in the context of a specific example rather than a generic analysis, and combining them in this way saves class time. Here’s an idea you might consider: At the end of the class session just prior to the one in which you begin to cover this chapter, ask students to take out a piece of blank paper, and write down whether they think the minimum wage should be increased, and their reason(s). Tell them not to write their names (you want them to be candid), and have them leave their pieces of paper in a pile as they exit the classroom. Later, divide the papers into two groups based on whether they support or oppose increasing the minimum wage. In this PowerPoint file, immediately after this slide, insert two new slides, titling them “Your reasons for raising the minimum wage” and “Your reasons for not raising the minimum wage.” Summarize on each slide the most common reasons students gave. Begin the class session by showing them the results of this impromptu survey (how many students responded each way, and the most common reasons). Tell those students who support a minimum wage increase that their thinking represents that of many educated non-economists. But tell them that economics offers another perspective, and this is something they will learn in this chapter. If you do this, then I recommend rearranging the slides a bit so that the price floor/minimum wage slides come BEFORE the price ceiling/rent control slides.
• When we talk about how a policy “affects the market outcome,” we mean the policy’s impact on the price and quantity of the good and therefore on the market’s allocation of resources. The concluding slide elaborates on this a bit.
• ### Macro ch06-presentation6e(2012)

1. 1. N. Gregory Mankiw Principles of Macroeconomics Sixth Edition 6 Supply, Demand, and Premium Government Policies PowerPoint Slides by Ron Cronovich© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 2012 UPDATEpermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
2. 2. In this chapter, look for the answers to these questions: • What are price ceilings and price floors? What are some examples of each? • How do price ceilings and price floors affect market outcomes? • How do taxes affect market outcomes? How do the effects depend on whether the tax is imposed on buyers or sellers? • What is the incidence of a tax? What determines the incidence?© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 1permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
3. 3. Government Policies That Alter the Private Market Outcome Price controls  Price ceiling: a legal maximum on the price of a good or service Example: rent control  Price floor: a legal minimum on the price of a good or service Example: minimum wage Taxes  The govt can make buyers or sellers pay a specific amount on each unit. We will use the supply/demand model to see how each policy affects the market outcome (the price buyers pay, the price sellers receive, and eq’m quantity).
4. 4. EXAMPLE 1: The Market for Apartments Rental P S price of apts \$800 Eq’m w/o price controls D Q 300 Quantity of apts© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 3permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
5. 5. How Price Ceilings Affect Market Outcomes A price ceiling P above the S Price eq’m price is \$1000 ceiling not binding— has no effect \$800 on the market outcome. D Q 300© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 4permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
6. 6. How Price Ceilings Affect Market Outcomes The eq’m price P S (\$800) is above the ceiling and therefore illegal. \$800 The ceiling is a binding Price \$500 constraint ceiling on the price, shortage D causes a Q 250 400 shortage.© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 5permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
7. 7. How Price Ceilings Affect Market Outcomes In the long run, P S supply and demand are more \$800 price-elastic. Price So, the \$500 ceiling shortage shortage is larger. D Q 150 450© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 6permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
8. 8. Shortages and Rationing  With a shortage, sellers must ration the goods among buyers.  Some rationing mechanisms: (1) Long lines (2) Discrimination according to sellers’ biases  These mechanisms are often unfair, and inefficient: the goods do not necessarily go to the buyers who value them most highly.  In contrast, when prices are not controlled, the rationing mechanism is efficient (the goods go to the buyers that value them most highly) and impersonal (and thus fair).© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 7permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
9. 9. EXAMPLE 2: The Market for Unskilled Labor Wage W S paid to unskilled workers \$6.00 Eq’m w/o price controls D L 500 Quantity of unskilled workers© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 8permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
10. 10. How Price Floors Affect Market Outcomes A price floor W below the S eq’m price is not binding – has no effect \$6.00 on the market Price outcome. \$5.00 floor D L 500© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 9permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
11. 11. How Price Floors Affect Market Outcomes labor The eq’m wage (\$6) W surplus S is below the floor Price and therefore \$7.25 floor illegal. \$6.00 The floor is a binding constraint on the wage, D causes a L surplus (i.e., 400 550 unemployment).© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 10permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
12. 12. The Minimum Wage Min wage laws unemp- do not affect W loyment S highly skilled Min. \$7.25 workers. wage They do affect \$6.00 teen workers. Studies: A 10% increase in the min wage D raises teen L unemployment 400 550 by 1–3%.© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 11permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
13. 13. ACTIVE LEARNING 1 Price controls The market for P 140 hotel rooms S 130 Determine 120 effects of: 110 A. \$90 price 100 ceiling 90 B. \$90 price 80 D floor 70 C. \$120 price 60 floor 50 40 0 Q 50 60 70 80 90 100 110 120 130© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use aspermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
14. 14. ACTIVE LEARNING 1 A. \$90 price ceiling The market for P 140 hotel rooms The price S falls to \$90. 130 120 Buyers 110 demand 100 120 rooms, Price ceiling 90 sellers supply 80 D 90, leaving a shortage = 30 70 shortage. 60 50 40 0 Q 50 60 70 80 90 100 110 120 130© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use aspermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
15. 15. ACTIVE LEARNING 1 B. \$90 price floor The market for P 140 hotel rooms Eq’m price is S 130 above the floor, 120 so floor is not 110 binding. 100 P = \$100, 90 Q = 100 rooms. Price floor 80 D 70 60 50 40 0 Q 50 60 70 80 90 100 110 120 130© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use aspermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
16. 16. ACTIVE LEARNING 1 C. \$120 price floor The market for The price P 140 hotel rooms surplus = 60 S rises to \$120. 130 120 Buyers Price floor 110 demand 100 60 rooms, 90 sellers supply 80 D 120, causing a 70 surplus. 60 50 40 0 Q 50 60 70 80 90 100 110 120 130© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use aspermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
17. 17. Evaluating Price Controls  Recall one of the Ten Principles from Chapter 1: Markets are usually a good way to organize economic activity.  Prices are the signals that guide the allocation of society’s resources. This allocation is altered when policymakers restrict prices.  Price controls often intended to help the poor, but often hurt more than help.© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 16permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
18. 18. Taxes  The govt levies taxes on many goods & services to raise revenue to pay for national defense, public schools, etc.  The govt can make buyers or sellers pay the tax.  The tax can be a % of the good’s price, or a specific amount for each unit sold.  For simplicity, we analyze per-unit taxes only.© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 17permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
19. 19. EXAMPLE 3: The Market for Pizza Eq’m w/o tax P S1 \$10.00 D1 Q 500© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 18permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
21. 21. A Tax on Buyers New eq’m: Effects of a \$1.50 per unit tax on buyers Q = 450 P Sellers S1 receive PB = \$11.00 Tax PS = \$9.50 \$10.00 Buyers pay PS = \$9.50 PB = \$11.00 D1 Difference between them D2 = \$1.50 = tax Q 450 500© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 20permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
22. 22. The Incidence of a Tax: how the burden of a tax is shared among market participants P In our S1 example, PB = \$11.00 Tax buyers pay \$10.00 \$1.00 more, PS = \$9.50 sellers get \$0.50 less. D1 D2 Q 450 500© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 21permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
23. 23. A Tax on Sellers The tax effectively raises Effects of a \$1.50 per sellers’ costs by unit tax on sellers P S2 \$1.50 per pizza. \$11.50 Tax S1 Sellers will supply 500 pizzas \$10.00 only if P rises to \$11.50, to compensate for this cost increase. D1 Hence, a tax on sellers shifts the Q S curve up by the amount of the tax. 500© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 22permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
24. 24. A Tax on Sellers New eq’m: Effects of a \$1.50 per unit tax on sellers Q = 450 P S2 Buyers pay S1 PB = \$11.00 PB = \$11.00 Tax Sellers \$10.00 receive PS = \$9.50 PS = \$9.50 D1 Difference between them = \$1.50 = tax Q 450 500© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 23permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
25. 25. The Outcome Is the Same in Both Cases! The effects on P and Q, and the tax incidence are the same whether the tax is imposed on buyers or sellers! What matters P is this: S1 PB = \$11.00 Tax A tax drives \$10.00 a wedge PS = \$9.50 between the price buyers D1 pay and the price sellers Q receive. 450 500© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 24permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
26. 26. ACTIVE LEARNING 2 Effects of a tax The market for P 140 hotel rooms Suppose govt S 130 imposes a tax 120 on buyers of 110 \$30 per room. 100 Find new 90 Q, PB, PS, 80 D and incidence 70 of tax. 60 50 40 0 Q 50 60 70 80 90 100 110 120 130© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use aspermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
27. 27. ACTIVE LEARNING 2 Answers The market for P 140 hotel rooms S 130 Q = 80 120 PB = \$110 PB = 110 PS = \$80 100 Tax 90 PS = 80 D Incidence 70 buyers: \$10 60 sellers: \$20 50 40 0 Q 50 60 70 80 90 100 110 120 130© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use aspermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
28. 28. Elasticity and Tax Incidence CASE 1: Supply is more elastic than demand P It’s easier for sellers PB S than buyers Buyers’ share to leave the of tax burden Tax market. Price if no tax So buyers Sellers’ share bear most of PS of tax burden the burden of the tax. D Q© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 27permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
29. 29. Elasticity and Tax Incidence CASE 2: Demand is more elastic than supply It’s easier P S for buyers Buyers’ share than sellers of tax burden PB to leave the market. Price if no tax Tax Sellers bear Sellers’ share most of the of tax burden PS burden of D the tax. Q© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 28permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
30. 30. CASE STUDY: Who Pays the Luxury Tax?  1990: Congress adopted a luxury tax on yachts, private airplanes, furs, expensive cars, etc.  Goal: raise revenue from those who could most easily afford to pay—wealthy consumers.  But who really pays this tax?© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 29permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
31. 31. CASE STUDY: Who Pays the Luxury Tax? The market for yachts Demand is price-elastic. P S In the short run, Buyers’ share of tax burden PB supply is inelastic. Tax Hence, companies Sellers’ share that build of tax burden PS D yachts pay most of Q the tax.© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 30permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
32. 32. ACTIVE LEARNING 3 The 2011 payroll tax cut  Prior to 2011, the Social Security payroll tax was 6.2% taken from workers’ pay and 6.2% paid by employers (total 12.4%).  The Tax Relief Act (2010) reduces the worker’s portion from 6.2% to 4.2% (for 2011 only), but leaves the employer’s portion at 6.2%. QUESTION: Will the typical worker’s take-home pay rise by exactly 2%, more than 2%, or less than 2%? Do any elasticities affect your answer? Explain.© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use aspermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
33. 33. ACTIVE LEARNING 3 Answers  As long as labor supply and labor demand both have price elasticity > 0, the tax cut will be shared by workers and employers, i.e., workers’ take-home pay will rise less than 2%.  The answer does NOT depend on whether labor demand is more or less elastic than labor supply. FOLLOW-UP QUESTION: Who gets the bigger share of this tax cut, workers or employers? How do elasticities determine the answer?© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use aspermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
34. 34. ACTIVE LEARNING 3 Answers to follow-up question  If labor demand is more elastic than labor supply, workers get more of the tax cut than employers.  If labor demand is less elastic than labor supply, employers get the larger share of the tax cut.© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use aspermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
35. 35. CONCLUSION: Government Policies and the Allocation of Resources  Each of the policies in this chapter affects the allocation of society’s resources.  Example 1: A tax on pizza reduces eq’m Q. With less production of pizza, resources (workers, ovens, cheese) will become available to other industries.  Example 2: A binding minimum wage causes a surplus of workers, a waste of resources.  So, it’s important for policymakers to apply such policies very carefully.© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as 34permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
36. 36. S U MMA RY • A price ceiling is a legal maximum on the price of a good. An example is rent control. If the price ceiling is below the eq’m price, it is binding and causes a shortage. • A price floor is a legal minimum on the price of a good. An example is the minimum wage. If the price floor is above the eq’m price, it is binding and causes a surplus. The labor surplus caused by the minimum wage is unemployment.© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use aspermitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.