Question

If the equilibrium price of corn is \(\$ 3\) a bushel, and the government imposes a floor of \(\$ 4\) a bushel, the price of corn will ______. a) increase to \(\$ 4\) b) remain at \(\$ 3\) c) rise to about \(\$ 3.50\) d) be impossible to determine

Short answer

The price of corn will increase to $4.

Step-by-step solution

Understand the concept of price floors

A price floor is a minimum allowable price set by the government for a specific good or service. A price floor is typically set above the equilibrium price, which is the price at which the quantity of a good demanded by consumers equals the quantity supplied by producers. When a price floor is imposed, producers are not allowed to sell their goods below the floor price.

Analyze the given price floor and equilibrium price

In this case, we are given the equilibrium price of corn, which is \(3 per bushel. The government is imposing a price floor of \)4 per bushel, which is higher than the equilibrium price.

Determine the effect of the price floor on the corn price

Since producers are not allowed to sell corn below the price floor, they are now required to sell corn at a minimum of $4 per bushel. The price floor is binding in this scenario, as it is higher than the equilibrium price, forcing the price of corn to increase from its current equilibrium level.

Select the correct answer

Considering the effects of the imposed price floor on the corn market, we can conclude that the price of corn will: a) increase to $4 Therefore, the correct answer is option (a).

Key concepts

Equilibrium Price

The equilibrium price is a fundamental concept in microeconomics. It is the price at which the quantity of a good or service demanded by consumers matches the quantity supplied by producers. At this price point, there is no surplus or shortage in the market. Let's consider an example to make it more relatable. Suppose you are at a farmers' market, and you notice a vendor selling apples for $3 each. It just so happens that at this price, exactly 50 apples are being sold because 50 consumers wish to buy apples at this rate.
This $3 is the equilibrium price because the amount of apples people want to buy is exactly the amount the vendor is willing to sell. When the market is at equilibrium, both buyers and sellers are satisfied; buyers get the apples they want, and sellers move their products without unsold stock remaining.

Binding Price Floor

A binding price floor occurs when the government sets a minimum price for a good or service that is above the equilibrium price. In the case of our earlier example with corn, the equilibrium price was set at $3 per bushel. When the government implements a price floor of $4 per bushel, this is a binding price floor.
Why is it called "binding"? Because it forces the market price to be higher than the equilibrium price, meaning producers are now prohibited from selling the product for less than $4. For price floors to be effectively binding, they need to be set above the equilibrium price, ensuring they impact the market. In our corn example, this intervention causes the price of corn to rise to $4, demonstrating a clear shift from the naturally occurring equilibrium price to a regulated price set by the government.

Government Intervention

Government intervention comes into play when there is a need to regulate certain economic variables, often with the intent to assist producers, control consumer prices, or manage the balance of trade. Actions such as implementing price floors represent one method of intervention, typically aiming to protect businesses or sectors struggling with low prices.
The government might decide to intervene for various reasons:

• To assist farmers in generating profitable revenue during poor market conditions
• To stabilize market prices and counteract volatile price fluctuations
• To encourage sustainable farming practices by ensuring fair compensation

The imposition of a binding price floor, such as the one we've seen with corn, is a classic example of how government actions modify the behavior of market participants.

Microeconomics Concepts

Microeconomics deals with the individual elements of an economy, such as consumers, firms, and their interactions. It includes concepts like supply and demand, price elasticity, and market equilibrium. Understanding the dynamics of these concepts helps in analyzing market outcomes and predicting the effects of policy changes, such as the imposition of price floors.
In our corn pricing scenario, the government’s decision to set a price floor draws directly from microeconomic principles. It shows how policies alter supply and demand, leading to a new market outcome. Key microeconomic insights here include understanding consumer behavior at different price points, the reactions from producers under enforced price changes, and how these adjustments tie into broader economic goals.
Microeconomics, thus, provides the foundation for comprehending the impacts of economic legislation and market regulations, helping both policymakers and the general public make informed decisions.