WEBVTT

00:00:02.026 --> 00:00:04.028
♪ [music] ♪

00:00:08.836 --> 00:00:11.066
- [Alex] In the next several videos, 
we'll dive deeper

00:00:11.066 --> 00:00:14.199
into price ceilings 
and also price floors.

00:00:14.199 --> 00:00:16.559
These are important 
for two reasons.

00:00:16.559 --> 00:00:19.478
First, governments around 
the world, both today

00:00:19.478 --> 00:00:23.188
and historically, often do impose 
price ceilings and floors

00:00:23.188 --> 00:00:25.258
so we want to 
understand their effects.

00:00:25.797 --> 00:00:30.068
Second, in the last section,
we explained how a price is

00:00:30.068 --> 00:00:32.828
a signal wrapped up 
in an incentive.

00:00:33.259 --> 00:00:36.309
In this section, we'll be
explaining, well, what happens

00:00:36.309 --> 00:00:39.838
when that signal, that price, 
is not allowed to do its work?

00:00:40.310 --> 00:00:42.408
When the price is not 
allowed to rise or fall,

00:00:42.408 --> 00:00:44.939
what happens when 
that signal is not sent?

00:00:45.208 --> 00:00:47.970
What happens when that
incentive is taken away?

00:00:52.720 --> 00:00:56.410
A price ceiling is a maximum price 
allowed by law.

00:00:56.771 --> 00:01:00.730
So for example, if the price
ceiling on gasoline is $2.50, 


00:01:00.730 --> 00:01:05.841
it is illegal to buy or sell 
gasoline at above that price.

00:01:06.238 --> 00:01:08.433
It's called a ceiling
because you cannot go

00:01:08.433 --> 00:01:10.280
above the ceiling.

00:01:10.530 --> 00:01:12.681
So a ceiling is a maximum price.

00:01:13.145 --> 00:01:15.842
It has five important effects.

00:01:15.842 --> 00:01:20.630
It's going to create shortages, 
reductions in product quality,

00:01:20.630 --> 00:01:24.377
wasteful lines
and other search costs,

00:01:24.377 --> 00:01:28.152
a loss in gains from trade --
or a deadweight loss --

00:01:28.152 --> 00:01:30.811
and a misallocation of resources.

00:01:31.161 --> 00:01:32.801
We're going to go through 
each of these --

00:01:32.801 --> 00:01:34.461
let's begin with shortages.

00:01:35.159 --> 00:01:37.799
We can easily show 
that price ceilings create shortages

00:01:37.815 --> 00:01:40.305
using our standard 
demand and supply framework.

00:01:40.616 --> 00:01:42.909
We'll use the price of gasoline
as an example

00:01:42.909 --> 00:01:44.968
because governments often
have imposed

00:01:44.968 --> 00:01:47.316
a maximum price on gasoline.

00:01:47.683 --> 00:01:51.347
Now, ordinarily, we would know 
that the market equilibrium

00:01:51.347 --> 00:01:53.456
would be found 
where the quantity demanded

00:01:53.456 --> 00:01:55.648
is equal to the quantity supplied.

00:01:55.648 --> 00:01:59.167
But suppose that the government
imposes a maximum price

00:01:59.167 --> 00:02:01.426
which is below 
the market equilibrium.

00:02:01.697 --> 00:02:04.518
So, this is a controlled price, 
a maximum price

00:02:04.518 --> 00:02:08.208
above which it is illegal 
to buy or sell this good.

00:02:08.687 --> 00:02:10.137
What we want to do now is

00:02:10.137 --> 00:02:13.722
simply read off the diagram 
what happens.

00:02:14.088 --> 00:02:16.847
So at the controlled price, 
we can read

00:02:16.847 --> 00:02:21.378
that the quantity demanded
given by the demand curve, is here.

00:02:21.768 --> 00:02:24.489
At the controlled price,
the quantity supplied is

00:02:24.489 --> 00:02:26.499
given by the supply curve 
and is read here.

00:02:26.826 --> 00:02:30.397
Notice that at the controlled price, 
the quantity demanded

00:02:30.450 --> 00:02:34.066
exceeds the quantity supplied,
and that's the shortage.

00:02:34.416 --> 00:02:38.484
Now, ordinarily, if the quantity 
demanded exceeded

00:02:38.484 --> 00:02:41.157
the quantity supplied, 
buyers want more of this good

00:02:41.157 --> 00:02:44.377
than they're able
to get at the current price.

00:02:44.738 --> 00:02:49.067
Ordinarily, the buyers would 
compete to push the price up,

00:02:49.067 --> 00:02:51.817
and the price would increase 
to the market price,

00:02:51.819 --> 00:02:53.810
and we would get 
the usual equilibrium.

00:02:53.915 --> 00:02:57.375
In this case, however, it's illegal 
to push the price up.

00:02:57.475 --> 00:03:02.543
So as a result, the quantity demanded
exceeds the quantity supplied,

00:03:02.543 --> 00:03:05.235
and we get this shortage 
which doesn't go away.

00:03:05.852 --> 00:03:08.292
The shortage is defined
simply as the amount

00:03:08.292 --> 00:03:12.402
by which the quantity demanded 
exceeds the quantity supplied

00:03:12.402 --> 00:03:14.372
at the controlled price.

00:03:14.683 --> 00:03:16.481
Let's give some examples.

00:03:17.252 --> 00:03:19.473
When goods are in shortage, 
that is when the quantity

00:03:19.473 --> 00:03:22.003
demanded exceeds 
the quantity supplied,

00:03:22.003 --> 00:03:24.841
sellers have more 
customers than goods.

00:03:25.275 --> 00:03:28.553
Usually, sellers have 
to compete to get customers,

00:03:28.553 --> 00:03:30.153
but when goods are in shortage,

00:03:30.153 --> 00:03:32.773
sellers have more customers 
than they need.

00:03:32.962 --> 00:03:37.705
As a result, when we have shortages,
the sellers can cut quality,

00:03:37.705 --> 00:03:41.435
cut their costs, 
and still sell everything

00:03:41.435 --> 00:03:44.153
they want to sell 
at the controlled price.

00:03:44.455 --> 00:03:47.584
As a result, price controls 
reduce quality.

00:03:47.584 --> 00:03:49.384
We saw this in the 1970s.

00:03:49.384 --> 00:03:51.974
Books were printed 
on lower quality paper.

00:03:51.974 --> 00:03:54.154
Two-by-four lumber shrank

00:03:54.154 --> 00:03:56.653
to one and five-eighths 
by three and five-eighths.

00:03:56.984 --> 00:03:59.914
Automobiles were given 
fewer coats of paint.

00:03:59.914 --> 00:04:03.136
Throughout the U.S. economy,
quality began to fall.

00:04:03.874 --> 00:04:06.555
Here's another example --
the great matzo ball debate.

00:04:06.627 --> 00:04:11.188
In 1972 union leader George Meany
complained that his favorite soup,


00:04:11.188 --> 00:04:14.907
Mrs. Adler's, had shrunk 
from four to three matzo balls.

00:04:15.196 --> 00:04:17.459
So serious was this 
that the Chairman of the Wage

00:04:17.459 --> 00:04:20.699
and Price Commission had his staff 
buy up a bunch of cans

00:04:20.699 --> 00:04:23.579
of Mrs. Adler's soup
and count in each one of them

00:04:23.579 --> 00:04:25.899
how many matzo balls 
were in the soup.

00:04:25.899 --> 00:04:27.639
He said there were still four.

00:04:27.639 --> 00:04:31.090
Whoever was right, however, 
the lesson is quite correct.

00:04:31.276 --> 00:04:33.909
Price controls reduce quality.

00:04:35.009 --> 00:04:37.730
When the quantity demanded 
exceeds the quantity supplied,

00:04:37.730 --> 00:04:39.609
when there's a surplus of buyers,

00:04:39.609 --> 00:04:42.520
sellers have less of an incentive 
to give good service.

00:04:42.752 --> 00:04:46.299
So another way to reduce quality is 
to reduce service.

00:04:46.725 --> 00:04:50.943
And indeed, full-service gasoline 
stations disappeared in 1973.

00:04:51.013 --> 00:04:52.867
The owners would simply 
close up shop

00:04:52.867 --> 00:04:54.896
whenever they wanted 
to take a break.

00:04:54.896 --> 00:04:56.808
More generally there's 
a reason why

00:04:56.808 --> 00:04:59.288
the baristas at Starbucks 
are pleasant to us.

00:04:59.288 --> 00:05:02.579
It's because they want 
more customers.

00:05:02.788 --> 00:05:06.532
Customers are profitable, 
but when you can't raise the price,

00:05:06.532 --> 00:05:09.586
when there's a shortage, 
when a seller has more customers

00:05:09.586 --> 00:05:12.667
than they need, it doesn't pay 
to be pleasant to customers.

00:05:12.667 --> 00:05:16.163
Indeed, it may pay to be unpleasant 
to drive some of them off,

00:05:16.163 --> 00:05:18.226
so you don't have to serve them.

00:05:18.226 --> 00:05:22.437
This is another reason 
why the workers at the DMV are

00:05:22.437 --> 00:05:25.426
on average probably 
a little bit less pleasant to us

00:05:25.426 --> 00:05:28.498
than at stores 
which require our service,

00:05:28.498 --> 00:05:31.987
than at stores which want us 
to come into the store.

00:05:31.987 --> 00:05:34.558
This is a reason why 
in communist countries

00:05:34.558 --> 00:05:38.236
like the ex-Soviet Union, 
the workers at the stores were

00:05:38.236 --> 00:05:41.666
much more unpleasant 
than workers at McDonald's are.

00:05:41.666 --> 00:05:44.962
Because McDonald's has an incentive 
to get more customers,

00:05:44.962 --> 00:05:47.478
they want to create 
a pleasant experience.

00:05:47.478 --> 00:05:51.110
They want to make it easy 
to buy goods from the store.

00:05:51.204 --> 00:05:54.501
But when there's shortages, 
when there are more customers

00:05:54.600 --> 00:05:57.510
than you need, it no longer
pays to be pleasant.

00:05:57.620 --> 00:06:01.269
Okay, price ceilings, let's 
remember five important effects.

00:06:01.558 --> 00:06:04.290
Shortages and reductions 
in product quality --

00:06:04.290 --> 00:06:05.958
that's what we covered today.

00:06:05.978 --> 00:06:08.767
Next we will be covering wasteful
lines and other search costs,

00:06:08.767 --> 00:06:12.458
a loss in gains from trade, 
and a misallocation of resources.

00:06:13.329 --> 00:06:16.749
- [Narrator] If you want to test 
yourself, click "Practice Questions."

00:06:17.449 --> 00:06:21.068
Or, if you're ready to move on,
just click "Next Video."

00:06:21.331 --> 00:06:22.980
♪ [music] ♪