Chapter - 2.10.3

Pages Covered - 74-76

Minimum Price

• A minimum price is set by the government above the existing free market equilibrium price & sellers cannot legally sell the good/service at a lower price

• Governments will often use minimum prices in order to help producers or to decrease consumption of a demerit good e.g. alcohol

Diagram Analysis

• The initial market equilibrium is at PeQe

• A minimum price is imposed at Pmin

  • The higher price increases the incentive to supply & there is an extension in QS from Qe → Qs

  • The higher price decreases the incentive to consume & there is a contraction in QD from Qe → Qd

  • This creates a condition of excess supply QdQs 

Advantages Of Minimum Price

• In agricultural markets, producers benefit as they receive a higher price (Governments will often purchase the excess supply & store it or export it)

  • When used in demerit markets, output falls (Governments will not purchase the excess supply of a demerit good)

    
    

  • Producers usually lower their output in the market to match the QD at the minimum price & this helps to reduce the external costs

Disadvantages Of Minimum Price

• It costs the government to purchase the excess supply & an opportunity cost is involved

  • Farmers may become over-dependent on the Government's help

    
    

  • Producers lower output which may result in an increase in unemployment in the industry