A price floor is a legally established minimum price that sellers must charge for a good or service. It creates a lower bound on the price, preventing the market price from falling below a certain level.
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A price floor is implemented to protect producers or workers from receiving a price that is too low, often in the context of agricultural goods or labor markets.
When a price floor is set above the equilibrium price, it creates a surplus of the good or service as the quantity supplied exceeds the quantity demanded.
Producers will be willing to supply more of the good at the price floor than consumers are willing to buy, leading to the surplus.
Price floors can lead to inefficiencies in the market and create deadweight loss, as they prevent the market from reaching the equilibrium price and quantity.
The minimum wage is a common example of a price floor in the labor market, as it establishes a minimum hourly rate that employers must pay workers.
Review Questions
Explain how a price floor affects the equilibrium price and quantity in a market.
When a price floor is implemented in a market, it is set above the equilibrium price. This means the quantity supplied will exceed the quantity demanded at the price floor, resulting in a surplus. Producers will be willing to supply more of the good at the price floor than consumers are willing to buy. This prevents the market from reaching the equilibrium price and quantity, leading to inefficiencies and deadweight loss.
Describe the key differences between a price floor and a price ceiling, and how they impact market outcomes.
A price floor is a legally established minimum price, while a price ceiling is a legally established maximum price. Price floors create a surplus by setting the price above the equilibrium, while price ceilings create a shortage by setting the price below the equilibrium. Price floors protect producers or workers from low prices, while price ceilings protect consumers from high prices. Both interventions lead to market distortions and inefficiencies, but the specific impacts on quantity supplied, quantity demanded, and market clearing prices differ between the two policy tools.
Analyze how the minimum wage, as a price floor in the labor market, affects the supply and demand for labor and the overall employment level.
The minimum wage is a type of price floor in the labor market, as it establishes the lowest legal hourly rate that employers can pay workers. When the minimum wage is set above the equilibrium wage rate, it creates a surplus of labor, as the quantity of labor supplied exceeds the quantity of labor demanded. This leads to unemployment, as employers are unwilling to hire all the workers who are willing to work at the minimum wage. The minimum wage policy aims to protect workers by ensuring they earn a livable wage, but it can also have unintended consequences, such as reduced employment opportunities, particularly for low-skilled workers.
A price ceiling is a legally established maximum price that sellers can charge for a good or service. It creates an upper bound on the price, preventing the market price from rising above a certain level.
A surplus occurs when the quantity supplied exceeds the quantity demanded at the prevailing market price. This results in an oversupply of the good or service.
Minimum wage is a type of price floor set by the government for the price of labor, establishing the lowest legal hourly rate that employers can pay workers.