Question

Use the information on the market for apartments in Bay City in the table to answer the following questions. $$ \begin{array}{r|c|c|} \hline \text { Rent } & \text { Quantity Demanded } & \text { Quantity Supplied } \\ \hline \$ 500 & 375,000 & 225,000 \\ \hline 600 & 350,000 & 250,000 \\ \hline 700 & 325,000 & 275,000 \\ \hline 800 & 300,000 & 300,000 \\ \hline 900 & 275,000 & 325,000 \\ \hline 1,000 & 250,000 & 350,000 \\ \hline \end{array} $$ a. In the absence of rent control, what is the equilibrium rent, and what is the equilibrium quantity of apartments rented? Draw a demand and supply graph of the market for apartments to illustrate your answer. In equilibrium, will there be any renters who are unable to find an apartment to rent or any landlords who are unable to find a renter for an apartment? b. Suppose the government sets a ceiling of \(\$ 600\) per month on rents. What is the quantity of apartments demanded, and what is the quantity of apartments supplied? c. Assume that all landlords abide by the law in part (b). Use a demand and supply graph to illustrate the effect of this price ceiling on the market for apartments. \(\mathrm{Be}\) sure to indicate on your graph each of the following: (i) the area representing consumer surplus after the price ceiling has been imposed, (ii) the area representing producer surplus after the price ceiling has been imposed, and (iii) the area representing the deadweight loss after the price ceiling has been imposed. d. Assume that the quantity of apartments supplied is the same as you determined in (b), but now assume that landlords ignore the law and rent this quantity of apartments for the highest rent they can get. Briefly explain what this rent will be.

Short answer

Equilibrium rent and quantity of apartments rented is \$800 and 300,000 apartments respectively. With a rent ceiling of \$600, the quantity of apartments demanded increases to 350,000 while supply decreases to 250,000, causing a shortage. In case rent control is disregarded, the highest rent landlords could charge is \$700 for 250,000 apartments.

Step-by-step solution

Finding Equilibrium Rent and Quantity

In the absence of rent control, the equilibrium rent is where the quantity demanded equals the quantity supplied. By examining the table, we find that the equilibrium point is at a rent of \$800. Here, both the quantity demanded and supplied is 300,000 apartments.

Implications of Equilibrium

In equilibrium, there won't be any renters who are unable to find an apartment to rent or any landlords who are unable to find a renter for an apartment. This is because demand equals supply, implying that all rented apartments are filled and all renters find an apartment to rent.

Impact of Rent Control on Quantity Demanded and Supplied

From the table, when the government sets a ceiling of \$600 per month on rents, the quantity demanded increases to 350,000 units, yet the quantity supplied decreases to 250,000 units, creating a shortage of apartments.

Graphing Market Scenario with Price Ceiling

This step requires drawing demand and supply graph illustrating the market scenario after the price ceiling has been imposed. You'll illustrate areas showing consumer and producer surplus, and the area depicting the deadweight loss. This will visually present the market unbalance created by price control.

Calculating Disobeyed Rent Control Impact

In case landlords ignore the law and rent the apartments for the highest rent they could get, they would rent the apartments at the price where quantity demanded equals the current quantity supplied (250,000 units). This comes out to be at a rent of \$700, according to the table.

Key concepts

Demand and Supply Graph

The demand and supply graph is a visual representation of how much of a product or service is wanted by consumers at various prices (demand) and how much is available from producers at those prices (supply). In the context of apartment rentals in Bay City, plotting the given data on a graph, we'd place rent on the vertical axis and the quantity of apartments on the horizontal axis. The demand curve would slope downward, indicating that lower rents increase the quantity demanded. Conversely, the supply curve slopes upward, showing higher rents encourage more apartments to be supplied. The point where these curves intersect is the equilibrium, illustrating the rent where the quantity of apartments demanded equals those supplied.

Price Ceiling Economics

Price ceiling economics involves understanding the effects of setting a maximum price (a 'price ceiling') that can be charged for a product or service. This binding price ceiling is usually set below the natural market equilibrium. In our case study of Bay City, a price ceiling set at \(600 creates market distortions since it is below the equilibrium rent of \)800. While this policy aims to make housing more affordable, it can also lead to shortages when the price is artificially kept low, disrupting the balance between supply and demand.

Consumer Surplus

Consumer surplus represents the difference between what consumers are willing to pay for a good or service and what they actually pay. It's the economic benefit to consumers because they are getting products at a price lower than what they are prepared to spend. In the Bay City apartment market scenario without rent control, consumers gain the maximum surplus at the equilibrium rent. However, with a price ceiling in place, while some consumers pay less rent and thus initially may experience an increase in consumer surplus, the resulting market shortage implies that not all consumers who want an apartment can obtain one, leading to a net loss in consumer welfare in the wider market.

Producer Surplus

Producer surplus is the difference between the actual price at which producers sell a product and the minimum price they would accept. It represents the benefit producers receive by selling at market price. In our exercise, landlords at the equilibrium rent of \(800 have a certain producer surplus. However, when rent is capped at \)600, surplus diminishes because landlords receive less than the market equilibrium price, and some are disincentivized from supplying apartments altogether, which can adversely affect the market.

Deadweight Loss

Deadweight loss refers to the loss of economic efficiency when the true cost of a product or service is not achieved, often due to market interventions like price ceilings. In the apartment market of Bay City, the deadweight loss is observed as the number of transactions (apartment rentals) that are not happening because the price ceiling dissuades landlords from renting out more units. This loss is a social cost as both potential renters and landlords miss out on possible gains from trade.

Market Shortage

A market shortage occurs when the quantity demanded of a good or service exceeds the quantity supplied at a given price. After the imposition of a $600 price ceiling on apartments in Bay City, the demand for apartments rises to 350,000, but supply drops to 250,000, leading to a shortage of 100,000 apartments. This gap between demanded and supplied apartments represents unmet housing needs and exemplifies one of the primary negative consequences of price ceilings.

Rent Control Impact

The impact of rent control, such as the price ceiling encountered in Bay City, can be multifaceted. Initially intended to make housing more affordable and protect renters from sudden rent increases, rent control can backfire by creating shortages and reducing the overall quality and supply of housing. As landlords are unable to charge market rates, they may be discouraged from maintaining or improving properties, leading to a possible decrease in the quality of available housing. Moreover, the market shortage may also result in an 'unofficial' market where apartments are rented out illegally above the ceiling price, representing a failure in the enforcement of the policy.