CIMA BA1 Syllabus B. Microeconomic And Organisational Context Of Business - Minimum Price And Maximum Price - Notes ^{9 / 9}

The government can manipulate the market by setting a maximum or minimum price for goods or services.

A minimum price is a price level below which the market price will not be permitted to fall = a price floor.

An example of this is minimum wage.

Increases welfare of producers
A higher price to suppliers of goods will result if the minimum price is above the current market price.
Create a surplus (excess supply)
In the diagram above, there is an overall excess supply represented by Qd to Qs.
This may lead to informal arrangements whereby suppliers agree to supply the good for less than the minimum price.

Increases pay of workers
A higher price to suppliers of labour will result if the minimum wage is above the current market price.
Create a surplus (unemployment)
In the diagram above, there is an overall excess supply of labour represented by Qd to Qs.
However, the unemployment caused by the minimum wage itself is only the distance Qd to Qo (because the equilibrium point prior to the minimum wage was Qo).
This may lead to informal arrangements whereby workers agree to work for less than the minimum wage.

A maximum price is a price level above which price will not be permitted to rise ie a price ceiling.

An example of this is the imposition of a maximum price for household rents.

Consumers are protected from the effects of high prices
eg rent controls are used in many cities (eg New York, Berlin) for this reason.
A shortage is created, and the market will not be able to ration the good between customers.
So the government will have to perform the rationing function by:
(i) Formal rationing — eg by issuing coupons or deciding allocation (in New York priority for apartments is given to long-term New York residents).
(ii) Implementing waiting lists.
Shortages may lead to illegal trading on the parallel (or black) market.