WEBVTT 00:00:09.342 --> 00:00:12.990 - [Alex] In this video, were going to take a look at another effect of price 00:00:13.170 --> 00:00:18.312 ceilings: wasteful lines and other search costs. Let's get started. 00:00:23.090 --> 00:00:28.310 It's important to understand that price controls do not eliminate competition. 00:00:28.490 --> 00:00:34.870 Competition for scarce goods is an ever present force under all forms of social 00:00:35.050 --> 00:00:39.960 organization. What price controls do is they change the form that competition 00:00:40.140 --> 00:00:47.660 takes. So in a market, demanders compete by pushing prices up. Suppliers compete by 00:00:47.840 --> 00:00:53.610 pushing prices down. When we have price controls, that shifting of prices is no 00:00:53.790 --> 00:00:58.550 longer possible. But competition remains - it just takes other forms. Here's an 00:00:58.730 --> 00:01:05.190 example of musical chairs. The quantity demanded exceeds the quantity supplied. 00:01:05.370 --> 00:01:10.590 There's a shortage. But there's still lots of competition, lots of scrambling to get 00:01:10.770 --> 00:01:16.470 hold of those goods which are in short supply. So lets take a closer look at some 00:01:16.650 --> 00:01:21.450 of the forms that competition takes when we have price controls and shortages. 00:01:21.630 --> 00:01:26.500 So suppose there's a price control on gasoline and oil, making it illegal to 00:01:26.680 --> 00:01:30.770 compete for these goods by pushing the price up. Nevertheless, there are other 00:01:30.950 --> 00:01:36.050 ways of competing. Some buyers, for example, might try bribing the station owners. This is not 00:01:36.230 --> 00:01:39.770 necessarily the first thing which would happen in the United States, but in other 00:01:39.950 --> 00:01:44.320 places and countries this is extremely common. Having a cousin who works in the 00:01:44.500 --> 00:01:48.640 factory which is producing the good which is in shortage is extremely important. 00:01:48.820 --> 00:01:52.940 Using ones political connections, being part of the political elite is 00:01:53.120 --> 00:01:57.400 extremely important for obtaining goods, which are in shortage. Even in the United 00:01:57.580 --> 00:02:02.387 States, remember that firms also need oil and gasoline in 00:02:02.387 --> 00:02:05.338 order to operate. And in the 1970s when there was a 00:02:05.400 --> 00:02:09.729 shortage of oil, firms appealed to the Department of Energy, they lobbied their 00:02:09.910 --> 00:02:14.213 Congressman and their Senator to obtain an allocation of oil for their firm. 00:02:15.173 --> 00:02:20.649 For consumers, another way to obtain the good is to be willing to wait in line. 00:02:21.566 --> 00:02:27.065 Now time waiting in line is also a cost. So let's ask, "How long will the 00:02:27.065 --> 00:02:32.119 line get?" We can use our model to understand willingness to wait in line 00:02:32.119 --> 00:02:34.826 and how long the lines will get. Let's take a look. 00:02:36.128 --> 00:02:39.510 So here's our supply and demand diagram of the shortage. Remember that at the 00:02:39.690 --> 00:02:44.520 controlled price we read the quantity demanded off the demand curve, Qd, and at 00:02:44.700 --> 00:02:51.180 the controlled price we read quantity supplied off the supply curve, Qs. So Qs is the actual 00:02:51.360 --> 00:02:56.760 amount of gasoline supplied given the controlled price of one dollar. Now, here 00:02:56.940 --> 00:03:04.450 is the key question: How much are buyers willing to pay for a gallon of gasoline, 00:03:04.630 --> 00:03:10.580 when Qs is the amount which is being supplied? How much are buyers willing to 00:03:10.760 --> 00:03:14.700 pay? What is the most they are willing to pay for a gallon of gasoline? Well remember, we can 00:03:14.880 --> 00:03:19.490 read that off the demand curve - that's what the demand curve tells us. So at the 00:03:19.670 --> 00:03:25.210 controlled price, when the quantity supplied is Qs, buyers are willing to pay 00:03:25.390 --> 00:03:31.280 $3 per gallon of gasoline. Theyre only allowed to pay in money $1. 00:03:31.460 --> 00:03:39.080 So, if a buyer were to obtain a gallon of gasoline at a controlled price 00:03:39.260 --> 00:03:45.320 of $1, that's actually worth to them $3. That explains why 00:03:45.500 --> 00:03:52.080 people are willing to wait in line for a long time in order to get gasoline, because 00:03:52.260 --> 00:03:56.633 the shortage has reduced the quantity supplied. It's raised the 00:03:56.633 --> 00:03:58.454 willingness to pay for gasoline, 00:03:58.454 --> 00:04:04.000 but it hasn't raised the price of gasoline. Therefore people are willing to 00:04:04.180 --> 00:04:11.600 wait in line. And, in fact, the line will grow until on the margin the 00:04:11.780 --> 00:04:19.329 time price plus the money price will be equal to the willingness to pay. So the 00:04:19.510 --> 00:04:25.160 line will grow until the money price, which is $1/gallon, plus the 00:04:25.340 --> 00:04:33.070 time price, the time wasted in line, which will grow up until it's $2/gallon, 00:04:33.250 --> 00:04:38.170 until the total price equals the willingness to pay. Why is that? Well, 00:04:38.350 --> 00:04:43.800 imagine that that were not the case. Imagine that you could obtain a gallon of gasoline 00:04:43.980 --> 00:04:49.160 which is worth $3 for you. And you only had to pay a dollar plus 50 cents 00:04:49.340 --> 00:04:53.960 in waiting time. Well that would be a great deal. So people will be willing to 00:04:54.140 --> 00:05:01.090 wait in line so long as the total price, the money price plus the time price, is 00:05:01.270 --> 00:05:05.510 less than the willingness to pay. This means that the line will continue to grow 00:05:05.690 --> 00:05:12.050 until the total price is equal to the willingness to pay. So, if we now take the 00:05:12.230 --> 00:05:17.590 time price, which is the difference between the willingness to pay and the controlled 00:05:17.770 --> 00:05:25.320 price, times the quantity - that gives us the total value of wasted time. So, another 00:05:25.500 --> 00:05:31.470 effect of price controls - it creates long lines in order to compete to get the good 00:05:31.650 --> 00:05:36.860 instead of bidding the price up, they bid in terms of being willing to wait in line. 00:05:37.040 --> 00:05:41.290 And those lines are wasteful, creates a lot of wasted time. 00:05:42.529 --> 00:05:46.410 Let's take a look with a numerical example. Okay, here's a simple numerical 00:05:46.590 --> 00:05:51.560 example to bring this home. Suppose that buyers value their time at $10/hour, 00:05:51.740 --> 00:05:56.920 and that the average fuel tank holds 20 gallons. Now imagine that a buyer arrives 00:05:57.100 --> 00:05:59.980 early at the gasoline station and they wait one hour. 00:06:00.160 --> 00:06:06.615 The total cost of the gasoline is then $20, $1/gallon times 20 00:06:06.615 --> 00:06:10.462 gallons in money cost, plus $10 in time cost. 00:06:10.462 --> 00:06:13.622 They waited an hour and they value their time 00:06:13.622 --> 00:06:19.232 at $10/hour. So the total cost of the gasoline is then $30. It took 00:06:19.232 --> 00:06:25.516 $30 worth of time and money in order to get 20 gallons. So the implied cost per 00:06:25.516 --> 00:06:31.678 gallon is $1.50/gallon. However, remember that given the quantity supplied, 00:06:31.678 --> 00:06:37.963 given the shortage, the value of gasoline is $3/gallon. So this buyer 00:06:37.963 --> 00:06:42.950 managed to obtain something which is worth $3/gallon for only $1.50 00:06:42.950 --> 00:06:50.114 per gallon. That's a good deal so other buyers are going to bid up the price 00:06:50.114 --> 00:06:56.334 by arriving earlier and earlier. And this is going to push up the time cost. The 00:06:56.334 --> 00:07:00.702 money cost is fixed because of the price control, but the time cost can still 00:07:00.702 --> 00:07:08.531 increase. In fact, the line will lengthen until the total cost of obtaining 20 00:07:08.531 --> 00:07:16.013 gallons of gasoline equals $60 or $3/gallon. In other words, the 00:07:16.013 --> 00:07:25.014 buyers will end up spending $20 in money cost plus $40 in time cost, or four hours of 00:07:25.014 --> 00:07:29.585 waiting. So we're able to calculate approximately how long the line will get. 00:07:29.585 --> 00:07:36.617 It will get four hours worth of time. So this again illustrates that competition 00:07:36.617 --> 00:07:42.599 does not go away when we have price controls. Instead competition takes 00:07:42.599 --> 00:07:48.556 different forms, and one of those forms is - instead of bidding up the money price, the 00:07:48.556 --> 00:07:55.948 time price is bid up and we get long and wasteful lines. So what we've just seen 00:07:55.948 --> 00:08:00.848 is that in a free market, buyers compete to obtain goods by bidding up money 00:08:00.848 --> 00:08:06.543 prices. And when we have price controls, one way that buyers compete to obtain 00:08:06.543 --> 00:08:12.030 goods is by bidding up time prices, by being willing to wait in line. So what's a 00:08:12.210 --> 00:08:17.490 better form of competition? Bidding or paying in money or paying in time? Does it 00:08:17.670 --> 00:08:20.910 make a difference? After all, some people have got more money, some people have got more 00:08:21.090 --> 00:08:27.400 time, is it just a matter of preference? No. It is much better to have an economic 00:08:27.580 --> 00:08:33.308 system where competition takes the form of bidding in money than it takes the form of 00:08:33.490 --> 00:08:42.730 bidding in time. Why? Paying in time is much more wasteful. When you bid in terms 00:08:42.909 --> 00:08:48.880 of money, the money goes to the station owner. The money does not disappear. That 00:08:49.060 --> 00:08:54.750 purchasing power is transferred from the consumer to the producer. On the other 00:08:54.930 --> 00:09:01.450 hand, when buyers bid in terms of time, when they wait in line, that waiting in 00:09:01.630 --> 00:09:07.170 line is just lost. It's not transferred to the producer. When you wait in line for 00:09:07.350 --> 00:09:13.750 four hours to obtain gasoline, the seller of gasoline doesn't get to add four hours 00:09:13.930 --> 00:09:20.240 to his lifespan. So that waiting in line is just a total loss. When you pay in 00:09:20.420 --> 00:09:26.410 money, the purchasing power is transferred to the station owner. When you pay in 00:09:26.590 --> 00:09:32.520 terms of time, the value of that time is simply lost. It benefits no one. 00:09:32.700 --> 00:09:37.590 Okay, quick reminder of where we are. Price ceilings have five important effects. We've 00:09:37.770 --> 00:09:42.470 looked at shortages and reductions in product quantity. We've just completed wasteful 00:09:42.650 --> 00:09:46.443 lines and other search costs. Up next, a loss in gains from trade, 00:09:46.443 --> 00:09:48.837 and then a misallocation of resources. 00:09:50.170 --> 00:09:54.680 - [Announcer] If you want to test yourself, click Practice Questions. 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