Price Floor

Posted by Professor Cram in Government Intervention

Price Floor

Supply and Demand Curve

Supply and Demand Curve

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.

Price Floor

Price Floor

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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