Question

Suppose equilibrium price in a market is \(\$ 5,\) and then a price ceiling of \(\$ 3\) is imposed. Assume (as in the chapter) that those who value the product the most are able to buy whatever quantity is available, and there is no black market. a. If supply is completely price inelastic between \(\$ 3\) and \(\$ 5,\) is there a deadweight loss? Briefly, why or why not? b. If demand is completely price inelastic between \(\$ 3\) and \(\$ 5,\) is there a deadweight loss? Briefly, why or why not?

Short answer

a. No, there would not be a deadweight loss if supply is completely price inelastic between $3 and $5 when a price ceiling is imposed. b. Similarly, no deadweight loss occurs when demand is completely price inelastic between these prices.

Step-by-step solution

Analyze the effect of a price ceiling on a market with price inelastic supply

A price ceiling below the equilibrium price (from $5 to $3 in this case) usually results in a shortage, as producers are less willing or able to supply the product. However, when supply is completely price inelastic, quantity supplied remains constant regardless of price changes. In this case, the quantity supplied remains the same at $3 as it would have been at $5.

Determine whether deadweight loss occurs

Deadweight loss occurs when market transactions are not happening that would make both the buyer and the seller better off. In this case, however, since the quantity supplied does not change with price, there are no lost transactions as a result of the lower price, meaning there is no deadweight loss.

Analyze the effect of a price ceiling on a market with price inelastic demand

When demand is completely price inelastic, consumers' willingness to buy the product remains constant regardless of price changes. Thus, the quantity demanded remains the same at $3 as it would have been at $5.

Determine whether deadweight loss occurs in this scenario

Again, deadweight loss occurs when the price mechanism fails to maximise total economic well-being. In this case, since consumers' willingness to buy does not change with price, there are no additional or reduced transactions due to the lower price, meaning there is no deadweight loss.