Markets and efficiency

1
Markets and efficiency

• Today Why controlling the market is often bad
  for efficiency

2
Rent control in Isla Vista

• Who thinks it is a good idea? Why?
• Who thinks it is a bad idea? Why?

3
Current Isla Vista rental market

• About 1400-1500 per bedroom
• About 700-750 per person per month (assuming 2
  people per bedroom)

4
Rent control in Isla Vista

• Suppose that rent control was implemented in Isla
  Vista, at 1500 per month for a 2-bedroom
  apartment
• Who currently lives in I.V.?
• Who would want to live in I.V. if rent control
  was passed?

5
Outcome

• More people want to live in I.V. than apartments
  are available
• This, by itself, will lead to a shortage of
  apartments in I.V.
• Some of you will be very unhappy that you cannot
  live in the home of first choice

6
What will managers do?

• Apartment managers will know that a flood of
  applications will come in for leases starting in
  June and September
• They will be able to pick and choose who lives in
  their apartments

7
What will managers do?

• Other methods can be used to choose tenants
• Increased credit requirements
• Increased deposits
• Increased application fees
• Reduced amenities (low quality carpet, infrequent
  painting and maintenance)
• (Illegally) accept bribes

8
What will happen over time?

• Nobody will want to build new apartments for
  rent, lowering the long-run supply
• Some apartments may convert to vacation condos if
  short-term rentals are not included in
  rent-control law
• More grad students, post-docs, faculty, and staff
  will likely live in I.V.

9
But wait!

• Dont I have a right to live in I.V.? No
• Unless the government steps in once again, rent
  control will lead to a sizable excess demand

10
Long-run consequences of rent control
(100s)

• Suppose that the long-run equilibrium of
  2-bedroom apartments in I.V. is 3,000 per month
  rent, and 2,000 units rented
• With rent control of 1,500/month, we see excess
  demand

excess demand
30
15
(100s units)
11
Long-run consequences of rent control
(100s)

• Notice that supplied apartments for rent are cut
  in half in the long run with rent control
• Only 1/3 of the people that want apartments will
  get them

excess demand
30
15
100s units
12
Lets survey the class again

• Rent control in Isla Vista
• Who thinks it is a good idea? Why?
• Who thinks it is a bad idea? Why?

13
Rent control summary

• Who wins?
• People renting in I.V. w/rent control (maybe)
• Who loses?
• People who want to live in I.V. w/o rent control
  but are unable to find an apartment
• Apartment owners and managers
• Some people currently renting in I.V.

14
Elasticity and price control
(100s)

• How does elasticity play a role in price
  controls?
• We need to look at elasticity on both the supply
  and demand sides

excess demand
30
15
100s units
15
Elasticity and price control
(100s)

• Demand
• Q, 20 ? 30 (?50)
• P, 30 ? 15 (?50)
• e ?Q / ?P 1
• Supply
• Q, 20 ? 10 (?50)
• P, 30 ? 15 (?50)
• e ?Q / ?P 1

excess demand
30
15
100s units
16
Elasticity and price control
(100s)

• When both price elasticity of supply and demand
  are 1, a price control 50 below the equilibrium
  price leads to an excess demand equal to the
  initial equilibrium quantity

excess demand
30
15
100s units
17
Elasticity and price control

• What if each elasticity is smaller than in my
  example?
• What if excess demand in I.V. apartments is only
  200 units instead of 2,000 units?
• None of the arguments change, although the
  severity may decrease some

18
Price control and surplus

• With lower consumption, total economic surplus
  goes down
• One side of the market may make gains, however

19
Price control and surplus

• Equilibrium without price controls
• Price B
• Quantity Q1
• Consumer surplus ?ABC
• Producer surplus ?BCD
• Total surplus ?ACD

20
Price ceiling at G

• Quantity supplied Q2
• Excess demand Q3 Q2
• Consumer surplus Trapezoid AEFG (at most)
• Producer surplus ?DFG

21
Price ceiling at G

• Total surplus is trapezoid ADFE (at most)
• ?CEF is potential surplus that is never gained

22
Price ceiling at G

• Are consumers better off with price controls?
• Gain
• Rectangle BGFH
• Losses
• ?CEH
• Queuing costs

23
Price ceiling at G

• Suppliers are worse off
• Producer surplus falls to ?DFG

24
Summary/Other ideas

• A price ceiling, such as rent control, is an
  ineffective means of providing low-cost rent to
  those that want it
• Maybe there is another way of achieving a goal of
  low rent
• Two possible ways of doing this
• Subsidies to students that rent
• First-come, first-served policy

25
For Wednesday

• Think about whether or not subsidies or a
  first-come, first-served policy could be more
  efficient than rent control
• Read pages 197-199