Price
Floor
Definition of Price Floor
A Price Floor is a
government-imposed minimum price charged on a product or service. It differs
from a price ceiling in that it artificially prevents the price from falling
too low.
Graph A shows the
equilibrium price of a good or service, determined by the intersection of the
supply curve and the demand curve.
(Equilibrium price is the
price at which the quantity demanded for a good or service is equal to the
quantity supplied. Typically, market forces do not move to change either demand
or supply at the equilibrium price.)
A price floor can either
be above or below the equilibrium price, as shown by the dashed and solid lines
in Graph B.
The dashed line of Graph B
represents the government’s imposed minimum price (price floor) below the
market-determined equilibrium price, and has no measurable affect on the
product’s price. In this case, the market is already producing a price higher
than the imposed minimum.
A different affect occurs
when the government’s imposed minimum price is above the market’s equilibrium
price, as shown by the solid line in Graph B. Suppliers can no longer charge
the price the market demands but are forced to raise minimum price set by the
government’s price floor.
A high price floor forces
consumers to pay a higher price decreasing the demand and even eliminating some
consumers from the market. Producers on the other hand now charge more for the
product and increase supply. The decrease in demand and increase in supply due
to the new imposed higher price creates a surplus of the product. The
government in order to maintain the price floor over a period of time must
eliminate the surplus.
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