microéconomie, chapter 9 - cescermsem.univ-paris1.fr/davila/teaching/sbs/ch09_pindyck-09.pdf ·...
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1 Solvay Business School – Université Libre de Bruxelles
1
Competitive markets
Microéconomie, chapter 9
Solvay Business School – Université Libre de Bruxelles 2
List of subjects
Evaluation of public policies Efficiency of competitive markets Minimum prices Support prices and production quotas Import quotas and tariffs Effects of taxes and subsidies
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Evaluation of public policies
Example: If a maximum price is imposed
Some will benefit since they will be able to buy at a lower cost
Others will be harmed since they will not get the best possible price for their goods
But how can we evaluate the net effect?
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Evaluation of public policies
To evaluate the effect of a public policy one can measure the variation of the consumers and producers surpluses
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Consumers and producers surplus
The aggregate demand curve gives the willingness to pay of consumers
The consumers surplus is the area under the demand curve and above the market price
The consumers surplus measures the total benefit they obtain
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Consumers and producers surplus
The aggregate supply curve gives the price producers are willing to accept to produce each level of output
The producers surplus is the area below the market price and above the supply curve
The producers surplus measures the total net benefit they obtain
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Consumers and producers surplus
Between 0 and Q0 the producers obtain a
net benefit from selling the good
Consumers surplus
quantity
Price
S
D
Q0
Between 0 and Q0 consumers obtain a
net benefit from buying the good
Producers surplus
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Consumers and producers surplus
1. Consumers surplus: value they get in excess of their payments Assume the price is €5 Some consumers are willing to pay more
than €5 for the good Those willing to pay up to €9 and get it for
€5 obtain a surplus of €4
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Consumers and producers surplus
2. Producers surplus revenue they get in excess of the cost of production Some firms would continue to produce even at a
lower price For instance, some would accept a price of €3
instead of €5 These firms obtain a surplus of €2 per unit
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The efficiency of competitive markets
The market is efficient when it maximizes the aggregate surplus of producers and consumers
The control of prices can have a cost in terms of efficiency
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Some market failures
1. Externalities Costs and benefits not taken into account
by the market (e.g., pollution) 2. Imperfect information
Missing information may prevent producers and consumers to make optimal decisions
In these situations a public intervention can improve the efficiency
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The efficiency of competitive markets
In principle, no intervention is the best policy if efficiency is the goal
But there is often market failures Prices do not convey the correct information
to consumers and producers In such cases unregulated competitive
markets lead to inefficient allocations
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Price controls and changes in surplus
Consider a maximum price too low Demand increases and supply decreases
Leads to rationing the good
Firms will get a lower price Some firms will go out of business All firms will see their surpluses decrease
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Price controls and changes in surplus
Some consumers willing to pay the price will not find the good They will lose some surplus
Those consumers who manage to get the good will buy it at a lower price They will gain some surplus
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Firms lose the sum of A and C
B
A C
Some consumers gain A
Price controls and changes in surplus
Quantity
Price
S
D
P0
Q0
Pmax
Q1 Q2
Some consumers lose B
The total net loss is B and C
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Price controls and changes in surplus
The net loss of surplus (of both consumers and firms) is the inefficiency caused by the price control
If the demand is very inelastic, the consumers’ losses can be very important
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B
A Pmax
C
Q1
With an inelastic demand B can be larger than A so that
consumers suffer a net loss
S
D
Price controls with an inelastic demand
Quantity
Price
P0
Q2
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B
A
C
The consumers gain is A minus B, and the firms loss
is A plus C
S D
2.00
2.40
Price
Quantity 0 5 10 15 20 25 30 18
(Pmax)1.00
Evaluating price controls
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Evaluating price controls
Impact of the price control
A = 18 x €1 = €18
B = 1/2 x 2 x €0,40 = €0,4
C = 1/2 x 2 x €1 = €1
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Evaluating price controls
Variation of the consumers surplus A - B = 18 – 0,4 = €17,6 gain
Variation of the firms surplus A + C = 18 + 1 = €19,0 loss
Net loss B + C = 0,4 + 1 = €1,4 loss
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B A
C
Price controls and changes in surplus
Quantity
Price
S
D
P0
Q0
Pmin
Q1 Q2
When a minimum price Pmin is imposed, the loss of surplus is
the sum of B and C
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Price controls and changes in surplus
The loss of surplus in B and C is a good estimate of the cost in terms of efficiency of the price control policy
The policy can then be evaluted estimating the areas B and C
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Minimum price
Often governments try to guarantee some incomes setting minimum prices Minimum wage Agricultural policies…
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Minimum price
When a minimum price is set above the equilibrium price: Demand decreases Firms expand supply due to the higher price An additional loss comes from the cost of the
production in excess of demand
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B A
The change of the producers surplus
is A – C – D
C
D
Minimum price
Quantity
Price
S
D
P0
Q0 Q1 Q2
Pmin
If firms expand output up to Q2,
the difference Q2 – Q1 will remain unsold
D mesures the cost of the unsold additional
output
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Minimum price
Consumers surplus change: Some surplus is lost from buying some output at a
higher price (rectangle A) Some surplus is lost from the decrease in the amount
purchased (triangle B) Producers surplus change (if output is not
increased): Some surplus is obtained from selling some output at
a higher price (rectangle A) Some surplus is lost from the decrease in the amount
sold (triangle C)
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Minimum price
But firms increase output up to Q2 to adjust to a higher price Since they only sell Q1 no revenue covers the cost of
additional production (Q2-Q1) Since the supply curve gives the CMg, the cost of the
additional output is the area under the supply curve between Q1 and Q2 (area D)
The producers surplus change is then A – C – D
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Minimum wage
Wage is fixed above the equilibrium level Employed workers receive a higher wage The number of employed workers decreases Involuntary unemployment appears (some
workers willing to work at the minimum wage will not find a job)
Some workers will see their surplus increase, other will lose some surplus
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B
The loss of surplus is the sum of B and C
C
A
L1 L2
unemployment
wmin
A minimum wage Wmin creates involutary
unemployment
S
D
w0
L0
Minimum wage
L
w
A is the gain of those who keep their jobs at the minimum
wage
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Production quotas
The government can also support prices limiting supply
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B A
C
Production quotas
Quantity
Price
D
P0
Q0
S
S’
PS
Q1
• output limited to Q1 • the supply curve becomes S’
• ΔSC = – A – B
• ΔSP = + A – C
• ΔST = – B – C
The social loss is B + C
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Price support
Agricultural policies are based on price supports Prices are supported above equilibrium levels by government
purchases of excess supplies Prices can also be artificially supported by retricting
production through quotas or incentive schemes What are the consequences from consumers, producers
and the government budget?
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E
D B
A
To support Ps the government
buys Qg = Q2 – Q1
D + Qg
Qg
Price support
Quantity
Price S
D
P0
Q0
Ps
Q2 Q1
• ΔSC = – A – B
• ΔSP = + A + B + D
• coût = – E – B – D – C
• ΔST = – E – B – C
The social net loss is
E + B + C C
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Price support
consumers Demand decreases and supply increases Government buys the excess supply Consumers pay a higher price The loss of surplus is for the consumers A+B
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Price support
producers Their surplus increases since they sell more
at a higher price The increase in surplus is A+B+D
government The purchase of excess supply is a cost for
the consumers (it is paid by taxes) This cost is the area (Q2-Q1)PS
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Price support
The government could sell the excess supply in the world market But then it competes against its own producers in the
world market…
Total impact on surplus: ΔSC + ΔSP – gov. cost = D – (Q2-Q1)PS
Social loss E + B + C
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Limiting supply
Incentive schemes The government can pay producers to
decrease supply Payments for non cultivated land
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D
B A
C
Limiting supply
Quantity
Price
D
P0
Q0
S
S’
Q1
PS
• ΔSC = – A – B
• ΔSP = + A + B + D
• cost = – B – D – C
• ΔST = – B – C
Net loss for society:
B + C
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Limiting supply
Incentive schemes The higher price charged to the amount sold
increases the producers surplus in A The decrease in output decreases the producers
surplus in C The government pays producers (sufficiently) for not
producing beyond Q1 : B+C+D total change in the producers surplus SP = A – C + (B+C+D) = A + B + D
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Limiting supply
What is the most costly policy? The (direct) cost for consumers is the same in both
cases Producers obtain the same surplus in both cases Supporting prices is costlier than imposing quotas and
incentive schemes to reduce output
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Price support – example
Consider the following equilibrium supply: QS = 1800 + 240P demand: QD = 3550 - 266P Equilibrium at €3,46 and 2630 units sold
The government wants to increase the price up to €3,70 buying excess supply
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Price support – example
How much would the government have to buy to support a price of €3,70? QDTotal = QD + Qg = 3550 - 266P + Qg
QS = QDT 1800 + 240P = 3550 - 266P + Qg Qg = 506P - 1750 Qg = 506 x 3,70 – 1750 = 122,2 units
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D + Qg
2688
A B C
Qg
PS = €3,70
• -A-B consumers loss • A+B+C producers gain S
D
P0 = €3,46
2630 1800
Price support – example
Quantity
Price
2566
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Price support – example
Change in consumers surplus A = (3,70 – 3,46) x 2566 = € 615,84 B = 0,5 x (3,70 – 3,46)(2630 – 2566) = € 7,68
ΔCS = – A – B = € –623,52
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Price support – example
Cost of the intervention: Cost for the government
€3,70 x 122,2 = €452,14 Total cost
€623,52 + €452,14 = €1075,66 Producers gain
A + B + C = $638,2 million Loss of surplus =
€1075,66 - €638,2 = €437,46
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Import quotas and tariffs
Many countries impose import quotas and tariffs to support domestic prices above world prices Import quotas: a limit to the amount that can be
imported tariffs: taxes on imported goods
This allows domestic producers to obtain higher profits
But consumers pay a high cost
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QS QD
PW
A B C
A zero quota increases the domestic price up to
P0
Limits to imports
Quantity
Price
Q0
D
P0
S
Without intervention, the domestic price and the world price PW coincide
Imports
• the loss for consumers is A+B+C
• the gain for producers is A
• the loss of surplus is B +C.
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Tariffs
Tariffs increase domestic prices
Supply QS increases and demand QD decreases
The gain for domestic producers is A
The loss for consumers is A + B + C + D
The government income is D = tariff x imports
The loss of surplus is B + C
D C B
QS QD Q’S Q’D
A P*
Pw
Q
P
D
S
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Import quotas
With an equivalent quota, the rectangle D goes to the world producers
The loss for consumers is A+B+C+D
The gain for domestic producers is A
The net national loss is B + C + D
D C B
QS QD Q’S Q’D
A P*
Pw
Q
P
D
S
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Impact of a tax
If the government imposes a tax of €1 for each unit sold it can Charge firms €1 for each unit they sell Charge consumers €1 for each unit they buy
What is the best option for consumers?
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The impact of a tax
Every tax is actually paid partly by the consumer and partly by the firm
How the tax is divided between the two depends of the relative elasticities of supply and demand
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• loss for consumers A + B • tax revenue A + D • loss for producers D + C • loss of surplus B + C
Impact of a tax
D
S
B
D
A
C
Quantity
Price
P0
Q0 Q1
PS price received
Pb price paid
Tax
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Impact of a tax After the introduction of a tax:
1. The quantity purchased QD and the price paid Pb are on the demand curve Consumers are only interested in the price (including
taxes) they pay
2. The quantity sold QS and the price received PS are on the supply curve Producers are only interested in the price (excluding
taxes) they receive
5. QD = QS 6. The difference Pb - Ps is the tax
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Impact of a tax
When demand is relatively more inelastic, most of the tax is paid by the consumers
When supply is relatively more inelastic, most of the tax is paid by the producers
Impact of a tax
Quantity Quantity
Price Price
S
D S
D
Q0
P0 P0
Q0 Q1
Pb
PS
t
Q1
Pb
PS
t
the consumers pay most the producers pay most
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Impact of a subsidy
A subsidy works like a negative tax Makes the price paid by the consumer lower
than the price received by the firm It increases the amount exchanged in the
market
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D
S
Impact of a subsidy
Quantity
Price
P0
Q0 Q1
PS
Pb
The benefits from a subsidy are also shared
by consumers and producers, according to the relative elasticities of supply and demand
Subsidy
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Impact of a subsidy
Most of a subsidy goes to consumers if ED /ES is small
Most of a subsidy goes to the firms if ED /ES is big
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Impact of a tax - example
Consider a tax of 50 cents on demand
QD = 150 - 50P supply
QS = 60 + 40P equilibrium QS = QD = 100 at a price €1
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Impact of a tax - example
After introducing the tax: QD = QS
150 - 50PB = 60 + 40PS
150 - 50(PS+ 0,50) = 60 + 40PS
PS = 0,72 PB = PS + 0,50 = €1,22
QD = QS = 89
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Impact of a tax - example
After introducing the tax: Q decreases 11% The price paid increases 22 cents The price received decreases 20 cents The tax revenue is €44,5
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C D
A
Imopact of a tax - example
Quantity
Price
50 150 100
P0 = 1,00
Pb = 1,22
PS = ,72
89
11
Split of the tax : 22 on consumers, 28 cents on firms
S D
60
€0,5Tax
Loss for consumers = A + B
Loss for firms = C + D
Tax revenue = A + D = 0,50 x 89 = €44,5
B
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