PRICE CEILINGS and IMPERFECT COMPETITION
| Published date | 01 November 1995 |
| Author | Ian Motho |
| DOI | http://doi.org/10.1111/j.1467-9485.1995.tb01166.x |
| Date | 01 November 1995 |
Scorrish
Journal
of
PoliricalEcononry,
Vol.
42.
No.
4,
November
1995
0
Scottish
Economic Society
19Y5.
Published by Blackwell Publishers,
108
Cowley Road,
Oxford
OX4
IJF.
UK
and
238
Main
Street.
Cambridge.
MA
02142,
USA
PRICE CEILINGS AND IMPERFECT
COMPETITION
Ian
Molho'
I INTRODUCTION
Traditional textbook analysis of the effects of price ceilings contrasts the
outcomes under competitive and monopolistic market structures. In
this
paper
we give a simple diagrammatic exposition of price ceilings under the more
realistic cases of Coumot oligopoly with fixed firm numbers, and allowing for
free entry. In
both
cases the qualitative predictions regarding the effects of price
ceilings are closer to the monopoly model than perfect competition, in that
ceilings can raise output and lower price. In the standard Cournot case with
restricted entry there are clear parallels with monopoly in the taxonomy of
outcomes under price ceilings. The free entq model is similar to monopolistic
competition (except that we do not allow product differentiation); the central
result that price ceilings can raise industry supply still emerges in this case.
Whilst the analysis in both cases is simple and accessible, there appears to
be
no
previous exposition in the literature.
Our analysis is presented in general terms, and is seen as being of potential
relevance to any market. The most obvious specific application however, is to
the behaviour of landlords in the market for private rented accommodation. In
this paper we discuss the relevance of the model to this market, and policy
issues that arise in applying price ceilings in
this
context.
In the next section we briefly discuss the competitive case, and outline the
monopoly model. Section I11 analyses the effects
or
price ceilings
in
the standard
Coumot case with restricted entry. Section IV examines the impact when entry
is allowed, and presents simulations to gauge the potential welfare gains under a
range of parameter values. Section V discusses applications in terms of the
private rented sector, and Section VI provides a brief conclusion.
11
MONO~LY
AND
COMPETITION
The traditional partial equilibrium analysis of price ceilings under perfect
competition predicts that, with conventionally sloped supply and demand
curves, a binding price ceiling restricts supply and introduces excess demand
into the market. At the other extreme from competition is the textbook case of
monopoly.
This
latter case turns out to
be
instructive in relation to some of the
analysis presented later in
this
paper, and is set out in Figure
1.
The uncon-
strained monopolist produces at
P',
Q'.
A
price ceiling
P"'
imposed at a level
'
University
of
Newcastle
upon
Tyne
392
PRICE CEILINGS AND IMPERFECT COMPETITION
393
Q'
Qi
Q""
Figure
1.
Price ceilings under monopoly.
D
Q
below
P'
generates
an
MR Schedule which is flat at the level of
P"'
until
it
reaches the demand curve, at which point a discontinuity arises, and we revert to
the original MR Schedule.
There are three solution ranges, depending
on
the level at which the
ceiling
is
set (we assume throughout that
P"'rAC).
Starting at low levels for
the price ceiling (below
P;'),
there is an initial range over which increasing
theceiling causes increased supply, as we climb up the MC Schedule.'
Setting the ceiling below
P,"'
yields a monopoly output below the free market
level of
Q'.
Between
P,"'
and
PT,
however, output exceeds the free market
level, reaching a maximum at
P;'.
Up
to
P;'
the monopolist sets output as
a
price-taker.
As
the ceiling increases, the monopolist absorbs more of the
excess demand in the market, until we reach
PF
at which point a quasi-
competitive situation prevails in that
P
=
MC with zero excess demand (though
there may be excess profits).
'Note that
if
the MC curve were flat, the range of increasing output with increasing
ceilings would disappear. Any controlled price set between MC and
P'
would lead to a
solution on the discontinuous portion
of
the
MR
schedule, but still lead to higher output than
would obtain in the uncontrolled case.
0
IVY5
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