Week 5 Tutorial Exercises

Government Intervention in the Market

Exercise 1
Use the information in the following table on the market for apartments in Bay City to answer the
following questions.

QUANTITY QUANTITY
RENT
DEMANDED SUPPLIED
$500 375,000 225,000

600 350,000 250,000

700 325,000 275,000

800 300,000 300,000

900 275,000 325,000

1,000 250,000 350,000

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 on rents of $600 per month. What is the quantity of
apartments demanded, and what is the quantity of apartments supplied?

c. Assume that all landlords abide by the law. Use a demand and supply graph to illustrate the
impact of this price ceiling on the market for apartments. Make sure you indicate on your diagram
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 ceiling has been imposed.

d. Assume that the quantity of apartments supplied is the same as you determined in part (b).
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.

Exercise 2
Use the diagram and model of a Price Floor in a Demand and Supply diagram to describe a minimum
wage law in a low-skilled labour market.

Discuss what the diagram tells us about outcomes such as unemployment, potential winners and
losers, and economic efficiency.

What factors about the demand or supply of low-skilled labour in this labour market might be
important to the outcomes?
Exercise 3
Use the following diagram of the market for cigarettes to answer the following questions.

a. According to the diagram, how much is the government tax on cigarettes?

b. What price do producers receive after paying the tax?
c. How much tax revenue does the government collect?
d. Calculate the tax incidence borne by consumers and producers. Who bears the
greatest proportion of the tax incidence—consumers or producers?

Exercise 4
Every year at the beginning of flu season, many people, including elderly people, get a flu
vaccination to reduce their chances of contracting the flu. One result is that people who do not get a
flu vaccination are less likely to contract the flu.

a. What type of externality arises from getting a flu vaccination?

b. On the graph that follows, show the effects of this externality by drawing in and labelling any
additional curves that are needed and label the efficient quantity and the efficient price of flu
vaccinations. Label the area representing deadweight loss in this market.
Exercise 5
The fumes from dry cleaners can contribute to air pollution. Suppose the following diagram
illustrates the situation in the dry-cleaning market:

a. Explain how a government can use a tax on dry cleaning to bring about the efficient level of
production. What should the value of the tax be?

b. How large is the deadweight loss (in dollars) from excessive dry cleaning, according to the
figure?