This course offers an introduction to the functions of individual decision-makers—both consumers and producers—within the larger economic system. Emphasis is on the nature and functions of product markets, the theory of the firm under varying conditions of competition and monopoly, and the role of government in promoting efficiency in the economy. Most people make the incorrect assumption that economics is ONLY the study of money. My primary goal in this course is to shatter this belief. During this course, we will be addressing the above questions as well as many more relating to: -the environment -love and marriage -crime -labor markets -education -politics -sports -business My main goal is to show you the way economists think and how to use this analytical system to answer questions related not only to these and other important human issues, but to anything you end up doing with your life after this class. After all, as you will quickly find out, I believe that everything is economics!
5.2. Price Floors
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Do curso por University of Illinois at Urbana-Champaign
Princípios de Microeconomia
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Market Efficiency and Government Policies
Welcome to Week 3! Last module we introduced the supply and demand model to explain how free markets work. One of the main concepts we learned about free markets was that they tend to gravitate toward an “equilibrium” price and quantity. This module we will use the same conceptual model to answer one important question: Are free markets the best way to distribute society’s resources?
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Dr. José J. Vázquez-CognetClinical Professor
Department of Economics
>> [music] So, let's talk about price floors now.
Price floor is when the government tells sellers, that they can, they had to set
the price at a particular number, and the price cannot be any lower than that.
Now, that was probably strikes you as strange because why would the government
actually tell the seller that they have to, have a kind of a minimum price?
Meaning, that they want their sellers to price high.
I mean, why would the government want to help sellers that way?
Well there's two examples that will probably make sense of this.
The first one is the minimum wage, and for this, in other words, for, for the price
forward to make sense, you have to switch, while, as in the demand curve and the
supply curve, and think of us as sellers. After all, you are seller of one thing.
Even if you work for yourself or you work for someone else, you are a seller of your
time. Your time has value.
And when you work for money, you are selling your labor.
So, you, you are actually selling your labor to people who hire you, they make
goods, based on the stuff you produce, but you also sell them your labor.
So, in that market, in the market of the labor, you are the sellers and the firms
are, are the buyers. So, in then market, it makes sense for the
government to set a minimum price because what they're setting is the minimum wage.
The lowest they want firms to pay their employees.
So, the minimum wage in the US particularly have a very interesting
history. Controversial history, a lot of people are
in favor against. Today, we'll talk about the theoretical
explanation of the minimum wage within the context of a price floor.
But it merits to talk a little bit on why do we have the minimum wage.
When did the hist the minimum wage came about?
Well it was established in the late 30s during the period of the Great Depression.
And during that time, the situation of the country was quite dire.
Unemployment was unimaginable by today's standards.
We had situation of unemployment of 25%, a quarter of the population was unemployed.
So, a lot of people could not afford housing for their families, food for their
families. So, the government had a lot of incentive
to actually intervene, and they intervened by trying to establish policies that would
help people in, in the, the economics, right?
So one of those policies was the minimum wage.
We have a hulls of other policies that they go on and introduce during that time
as part of what is called in the US, the new deal.
One of those policies in minimum wage that basically sets that's the price that the
employers have to pay their employees at a minimum and they have to pay them either
that or higher. And at that time, when it started, it was
about $0.38, about $3 corrected for inflation.
But it has actually increased over the years because the cost of life have
increased and people need more money to, to go around.
And the government has passed many times, legislation, to increase the minimum wage
to the point that we have today where the minimum wage at the federal level is about
$7.25. It's probably higher at the state level,
in many states, in the state of Illinois, which is where I'm talking to you today,
is about $8.25. One of the first things that people talk
about is, what is, is this minimum wage enough to help people survive?
We are going to stay away from that discussion for now, and we're going to
focus more on the discussion of the minimum wage as a price floor.
And for that, we're going to use the model that we had introduced to you at the
beginning of this lesson. Okay.
So, think about an example. Let's say, people who work in retail
stores. They're probably, they're usually
unskilled workers so say that if this industry, the retail industry is left to
its own devices, no intervention, say, the actual wage in that industry will be $5,
that's the wage per hour. And now, the government comes and says,
well, that $5 is too low. That doesn't give people enough money for
them to survive. So, I think that the employers should pay
at least a minimum of $7.25. So clearly, that minimum will be above the
$5 equilibrium wage that we had before. And the same way, in which we did the
price ceiling, we're going to do a line across the model at that point, and that
is our price floor. And let's see what happens at that point.
Well, at that point, well, since, since the wage that retail employers can earn is
now more than it was before, you'll have a lot more people looking for jobs than when
we had before, right? So, what, now we have Q 2, the number of
people looking for jobs. But since the companies have to pay
workers more money, they're not going to be able to have the same number of workers
employed. They might actually have to get rid of
some workers because they, they cannot pay them what they should pay them in order to
keep them. Since the cost of production increased for
the firm, the firm will react by cutting the number of workers.
So, at, at a minimum wage of 7.25, at least in theory, we can say that the firm
is going to employ this many workers. So, the difference between the number of
workers that are looking for jobs, Q2, and the number of workers that the firm is
willing to hire is nothing else than unemployment.
That's, that's the definition of unemployment in an economy.
People looking for jobs who can not find those jobs.
So, you see that the result of this, in a minimum wage, at least in theory, is by
increasing the price, encourage some people to come into the industry and look
for those jobs. But also encourage firms to destroy some
jobs, get rid of some jobs because they cannot afford them anymore.
So now, what you have is a lot more people looking for a lot fewer jobs.
So, the result of that is, is a situation, which we can argue, at least in theory, is
worse than we had before because we have less number of workers.
Yes, and the workers that are employed are making more money, but a lot of these
workers, let's say, from Q3 to Q1, those are workers that were earning at least $5
before and now they're earning zero, they're earning nothing.
So one can make the argument or, you know, economists, some economists made the
argument that they're increasing the wage of those people that are now worker, came
at the expense of those people who actually left the industry.
Now clearly, this is just a theoretical explanation, right?
There's the, like I said at the beginning, the issue of the minimum wage is very
controversial. There are studies that suggest that in
some locations, the minimum wage may not have the, the, the impact on employment as
dramatic as the models suggest. There's also some studies that actually
correlate the increase in the, in the wage to how much, how productive workers are,
so maybe employers would like to keep those workers because the workers are more
productive when they're earning more money.
But whatever the, the, the actual result is, at least in theory, the model of
supply and demand provides one particular framework to analyze the, the issue of
minimum wage in the context of the price floor.
Now, another price floor that is very famous in the US is, is the price floor
for agricultural resources like corn and milk.
In those industries, the government, because is, are industries that we want to
maintaining to the, in the country, we don't want those industries to leave,
because they control the food supply of the country.
Then, we actually help those farmers by making sure that they can earn enough by
selling their products so they don't have to face competition from other countries.
So, the government basically paid the farmers enough so that the price or demand
enough for their farmers' products, so the price of, let's say, milk or corn doesn't
go down. So, effectively, the government sets a
price for, for those things that are kind of high in those situations in which price
can actually go down because of competition from, from abroad and
internationally. Now the funny thing about that is that
then you have to, you have the government buying a lot of surplus, whatever it is,
corn or milk. I mean, many years ago, I mean, have, they
cannot put the milk back into circulation, because if they put the milk back into
circulation, then, then the price again goes down, which is what they are trying
to avoid. So, what could the government do with all
this milk? A lot of the times, what they do is simply
destroy it, right? They, they're destroying the, the, milk or
the corn that they actually buy from farmers.
And the whole point of this is to keep the price of the, of the goods high so that
the farmers can stay in operation, and we can maintain some of the food supply in
this country. So, it's not as prevalent and as I'm going
to say well-known as the price ceiling, but there are effects of price floor, and
then with any other thing, every time the government has an intervention that
affects a price, it will affect the, the market in, in a dramatic way, depending on
how the supply and demand curve are, are established.
Now, a lot of the times, a minimum wage might not have actually no effect.
And when would that happen? Well, you can imagine that is when the
minimum wage is actually high. But, let's look the, how the diagram will
look like. So before, we were talking about the
quantity of labor for retail employees, let's still think of the quantity of labor
so we have demand for labor, and the supply of labor, but this time the supply
is famous musicians, right? Those people are, who are probably already
making a high minimum wage to begin with. So, let's say that their, their wage, if
the government has no intervention was, I don't know, how much money a famous
musician makes. I don't know.
But for, for the sake of argument, let's say that they make about, you know, $2,000
an hour, alright? And then, here, here comes a minimum, the,
the government and say, well, employers can only, have to pay $7.25 or more.
Well, clearly, that's not going to affect this market at all, right?
Because at $7.25, is way below what the employers are paying those people in the
first place. So, in this market, the minimum wage has
absolutely no effect. Because the government says, well, you
have to pay 7.25 or more, and they are already paying 2,000, right?
So, the, their minimum wage has no effect here.
And if, if you are talking about an economy which most workers are earning
more than the minimum wage. If in this country, most workers are
making more than 7.25, then the minimum wage has no effect whatsoever, because
most people are already paying or earning that, that to begin with.
And that's one of the major controversies with minimum wage is, it's not only
whether minimum wage, wage will cost unemployment, but also particularly, the
proponents of the minimum wage would like to see it higher, because at a low point,
it has no effect. But we will discussion aside from now, I'm
going to give you more time to discuss this in your discussion forums, because
it's a controversial issue, right? So, I, I want to let you, you know, talk
about it. But it's better for if we do it in the
discussion forum. For now, we're going to move into
answering the question we talked about at the beginning of the class, which is the
issue of the, the market for organ donations.
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