Question

Assume you are a policymaker in Washington DC. Lobbyists for the dairy farmers of America have put pressure on their representatives to put a price control on milk. You have been assigned a position on a new committee to study the impact of such a control.

Your job is to:

1. Determine which type of price control would benefit the farmers, a price ceiling or a price floor.
2. Illustrate using a supply and demand graph what such an artificial price looks like.
3. Explain what the results of such a move are for the milk market. In other words, will there be a SHORTAGE, a SURPLUS, or neither created?
4. Finally, what are the impacts of this price control for those who wish to purchase milk? (In other words, what is the unintended consequence of this action? How will people deal with this change in the market?)

Answer 1

When the lobbyists for the dairy farmers of America put pressure on their representatives to put a price control on milk, they want to make their representatives better off. Hence, if a price above the equilibrium price is set, higher returns are expected. Keeping the price at a lower level than the equilibrium price would make the farmers worse off. Hence, to benefit the farmers, a price floor would be imposed.

As can be seen, when price is above the equilibrium price, the supply exceeds demand. Hence, there is an excess supply prevailing in the market.

Buyers now face a high price for milk. This creates a disincentive on their part to consume the good. Hence, they cut off their consumption at the given rate. The consumers might look for a substitute for milk like milk powder. This price floor creates a deadweight loss in the market implying that the outcome is inefficient.