In our previous video we discussed that the government intervention in the market can have impacts. Well, it could have lots of impacts but we're focusing in on government intervention that actually has impacts on prices of the product. because that's what we're doing in this course is price theory and so, we broke it down into thinking of two forms of government intervention. Direct government price controls or taxes or subsidies and their impact on prices. In this video, We're going to focus on direct government price controls. And essentially those government price controls, We can think of those as, Price floors, Or we can think of those as price ceilings. Price floors are exactly what it means exactly what it sounds like, price floors is a price the government announces that the price in the market can never go below that. A price ceiling is a price the government announces that which prices can never go above that. So, price floors are quite common in certain markets, especially agricultural markets the government announces that the price of X will never go below $3.50 a bushel or something like that. Price ceilings, these are in the news all the time because price ceilings there's many of them. But the one that you probably are most familiar with is, Rent control, the government can make an announcement that rents in city can never go above $600 a month or something like that, okay. So we're going to talk about how these markets work and we'll start with price floors, okay. So, price floors are situations where, The government announces the governing body whatever that is could be a state could be the federal, the government announces, A minimum price, price can go above it, okay. It just can't go below it, so think about this product. Here's quantity, here's price, here's a demand curve, and this is let's say the floor price. The floor price means exactly what it says, if price up here is perfectly legal. This price is legal because it's greater than the floor price, but all these prices are illegal because they're below the floor price. The government just won't let it happen, okay, so price can never drop bellow that, let's figure out how this market works, okay. So we're going to draw a graph and on our graph, we're going to be a little bit more accurate than that sloppy one I just put up. We're going to draw a vertical axis and we're going to draw a horizontal axis, and we'll put price on the vertical axis, and we'll put quantity on the horizontal axis. And we're going to draw a demand curve. Looks something like that, and we're going to draw a supply curve, That looks something like that, and we'll label this as S0 and this one we'll call D0. And what happens here is theirs we could call this part the P0, Q0 is what you would have seen back in the first module, that was the equilibrium in a free market. But the market is not free the government has announced a floor price. Now, where is that floor price? Well, one thing you gotta understand is if the floor price was anywhere below this, If the floor prices anywhere below this then, the market price is above it, so the floor price is not binding, it's irrelevant, okay. So for the floor price to be of anything interest, it's gotta be above where the market would like to be, okay. In other words, if I tell you there's a binding floor price, then you know that binding floor price has to be something like up here. P sub floor. Now at that floor price consumers only want to buy alpha and firms want to sell beta. How does that work? You say well Larry, there is a surplus here. Remember that? We talked at that back when we did demand curve, this would in a freely functioning market what would happen? Well that surplus would put downward pressure on price and as price went down, People would want to buy more of the product quantity demanded would increase, and firms would not put so much on the market. And eventually, they would get rid of that surplus, but that's not allowed here because the floor price says, you can never go below P sub floor. Now what type of examples will this be? Well, as I mentioned last video, [COUGH] this is quite frequent in, Agricultural markets. If you were to go back in if you were to go back and look at agricultural markets in the United States. Let's say in the 1960s in agricultural prices and the government had floor prices for everything. Price of corn could never go below $3.50 a bushel, the price of beans could never go below $6.25 a bushel ever, okay. It could go above it, but it can never go below that, okay, and the government enforced this in all sorts of different ways. Now, they do it in, All of those grain price floors all of those agricultural markets were basically abolished in the 70s and free markets took over, when the Board of Trade kind of trades corn and soybean. And all of these active cotton and wheat and all that on active freely flowing markets. One market however, was still under a price floor up until, Basically January 2015, not too long ago, and that is fluid milk at the dairy barn level. The government didn't care about regulating price floors at your convenience store or your supermarket. They wanted the price to the actual producer of milk, that is the dairy farmer could never get below a certain level. And there are all sorts of reasons why they did that, that are not important to us talk about right now. But they did impose that and see what happens in that situation, is that consumers only want to buy a certain amount. We've already talked about that, okay, firms want to put this one on the market, what's going to happen here? Well, how do you make that market work? Well the only way you can make that market work is that somebody's gotta buy that? If there's nobody to buy them out just because you say well the price can't go below $5 a gallon for your milk. If you produce a lot of milk, you could say well, who's going to buy this milk? And the government says, I don't know but the price can go above $5, well, that's not going to work. Okay, because the farmers all that stuff is going to spoil and be bad and that's about equilibrium situation, and all sorts of black markets would arise and everything to try and get the price three to be bellow that. So the only way this can stay say, the only way you could have this thing support itself, is to have something where the government actually buys it. And so what happen when we have price floor, is the government points out that you know what, at that floor price consumers only want to buy we'll call this quantity demanded at the floor price. But firms produce this much actual milk quantity supplied at the floor price, and what that means is that this difference this surplus has to be purchased, By the government. The government buys that at that price the government becomes a buyer and joins in side by side with these alpha consumers. You also add on top of that besides the alpha consumers you add on top of that the US government coming in and buy that. And this gap, Is the amount purchased, how much did they pay for that? Well, they paid this floor price, okay, remember at this price they're paying that amount for each unit. And so we know that the government therefore is paying this vertical distance, okay, that's really the price is paying per gallon of milk. How many gallons of milk does a body this horizontal distance? Well, you know, if you multiply base times height you get the area of a rectangle. So in fact this rectangle The value of this rectangle would be the total outlay by the US government total expenditure, Buying surplus milk. The only way the government can make the price floor work, is the government has to absorb the extra production that comes as a result of not letting the price sink. These people are going to put a lot of stuff on the market and the government's going to absorb that. What's the government doing with it? Well, you might say well maybe they're going to sell it, no they can't sell it because if they turn around and try to sell it once again. The only people that can sell to are people who are on this curve, and they've already said at this price, I only want to buy this amount [LAUGH] okay. If you want to buy more of that milk, you're going to have to lower price if you lower the price I'll buy some more, but, [COUGH] that's not what the governments are. So what the government do? Well turns out in this market the government figured out a convenience for this they make it into government cheese. So they took that milk that they bought and produce cheese out of it, and then on any given weekend in every town across America. You can hear these people making public service announcements, that there will be government cheese giveaway at the National Guard Armory on the University Street all day Saturday and Sunday, or local religious organizations a non for profits. They'll have the, At the ice rink this weekend, they'll be a government cheese giveaway. And so, the government buys all this extra milk up, and it has to absorb it off the market. So they produce cheese and, That way they can support the price floor, by the way, that ended in January of 2015. And so the prices for dairy milk actually fluctuate according to market prices. It's been a difficult life to say the least for dairy farmers because they were in a situation where many dairy farmers had gotten large under the idea that they're going to really end up selling Excuse me. They're really going to sell this total amount, some of which went to consumers and the rest went to the government. But they still needed to gear up to be able to support that type of market, and that type of markets not there anymore. So it's been a difficult few years for dairy farmers as they're trying to rebalance the overall size of herds and production. Now that the government is no longer wading in the market and being a huge purchaser of surplus milk to support those higher prices.
