IB Economics Ib Economics

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Ajwad Khan Brooks IB Economics 1 May. 5 A price floor is a legally set minimum price for a good or service (Tragakes 92). This is an example of government intervention. The minimum price is set above the equilibrium price in order to reduce quantity demanded. The governments of England and Wales have decided to set a price floor for alcohol. The result will be a surplus or, in other words, an excess in supply of alcohol. Alcohol has a very price inelastic demand. The price elasticity of demand is a measure of the responsiveness of the quantity of a good demanded to the changes in its price (Tragakes 47). This price floor in England and Wales has had an effect on the sales of alcohol as illustrated in the following diagram: Diagram 1: Diagram 1 shows the effect of the price floor on vodka in England and Wales. Before a price control was enforced by the government, the equilibrium price was Pe while the equilibrium quantity was Qe. Since the demand for vodka is price inelastic, the demand curve has a very high negative slope. The price floor must be set above the equilibrium price in order to reduce the quantity bought by consumers. The new minimum price for a standard bottle of 40% vodka is £10.16 (Pf). Qd is the quantity consumers are able and willing to buy at the minimum price. However, Qs is the quantity that the vodka firms are willing and able to supply. This results in a surplus, which is an excess of supply. The surplus is equal to Qs-Qd. In the end, Qd number of vodka bottles will be bought each at a price of £10.16. The fact that vodka’s demand is price inelastic means that Qd is not significantly lower than Qe. If vodka had a price elastic demand (much flatter demand curve) and also had a minimum price of £10.16, Qd ... ... middle of paper ... ...ving a lower quantity as depicted in Box A. Producers have a tax incidence of Box B because they are receiving a lower price and selling less quantity, which results in lower total revenues. The government benefits because they receive Boxes A and B as revenue. There is, however, some welfare loss equal to Triangles C and D. Although indirect taxes do not significantly reduce consumption of alcohol and causes welfare loss, it is still preferable to price floors. The reason is consumers are still held accountable by paying most of the incidence. Government can use the revenues for other social work as opposed to producers only receiving a higher surplus from price floors. Works Cited Tragakes, Ellie. Economics for the IB Diploma. 2nd ed. Cambrdge: Cambridge Univerisity, 2012. Print. "Diagram Creator." Creately. Cinergex Propriety, 2013. Web. 4 May 2014.
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