Why a government controls prices
The free-market price can sometimes feel unfair. A very high price of a basic food hurts poor families. A very low price of a crop hurts farmers. So the government may fix a price by law. This is called price control. We use the same demand and supply diagram to see what happens.
Example market used all through this lesson: Qd = 100 − 2P and Qs = 2P (P in ₹ per kg, Q in thousand kg). Equilibrium: ₹25 and 50.
Price ceiling (maximum price)
A price ceiling is the highest price at which a good may legally be sold. To matter, it must be set below the equilibrium price. Its aim is to make essentials like food grains, sugar or kerosene affordable for the poor.
Effect: shortage
At the low price, buyers want more and sellers offer less. At ₹15: Qd = 70, Qs = 30. Shortage (excess demand) = 40.
Consequences
- Long queues and waiting.
- Rationing: each family gets a fixed quota through ration cards at fair price shops (the Public Distribution System in India).
- Black market: some goods are sold illegally at a price above the ceiling, since many buyers are ready to pay more.
- Lower quality: sellers may cut quality to save cost.
A ceiling set above equilibrium has no effect, because the market price is already lower.
Price floor (minimum price)
A price floor is the lowest price at which a good may legally be sold. To matter, it must be set above equilibrium. Its aim is to protect sellers, for example farmers' income.
Effect: surplus
At the high price, sellers bring more and buyers take less. At ₹35: Qs = 70, Qd = 30. Surplus (excess supply) = 40.
Consequences and examples
- Minimum Support Price (MSP): the government buys the surplus crop at the support price.
- Buffer stock: grain bought is stored in godowns and later used for ration shops or in bad years. Storage costs money, and some grain can spoil.
- Minimum wage: a floor on the price of labour. If set above equilibrium, more people want work than employers hire.
- Sellers may try to sell secretly below the floor.
A floor set below equilibrium has no effect.
Ceiling vs floor at a glance
| Price ceiling | Price floor | |
|---|---|---|
| Meaning | Legal maximum price | Legal minimum price |
| Set | Below equilibrium | Above equilibrium |
| Helps | Buyers (poor consumers) | Sellers (farmers, workers) |
| Result | Shortage (Qd > Qs) | Surplus (Qs > Qd) |
| Side effects | Queues, rationing, black market | Govt buying, buffer stock, storage cost |
| India example | Ration shop prices (PDS) | MSP, minimum wages |
Try it at home
Ask at home or at a ration shop: what is the ration price of rice or wheat, and what is the market price? Work out the gap. Then look up the latest MSP for wheat and compare it with the mandi price.
Board exam tip
Draw the D and S curves, mark equilibrium, draw the control line, and label the gap as shortage or surplus. Then list 2–3 consequences.
Key formulas and definitions
- Price ceiling: legal maximum price, set below equilibrium (Pc < P*)
- Shortage = Qd − Qs at the ceiling price
- Price floor: legal minimum price, set above equilibrium (Pf > P*)
- Surplus = Qs − Qd at the floor price
- Ceiling above P* or floor below P*: no effect
Worked examples
1. Qd = 100 − 2P, Qs = 2P. The government sets a ceiling of ₹15. Find the shortage.
Qd = 100 − 30 = 70; Qs = 30. Shortage = 70 − 30 = 40 thousand kg.
2. Same market, floor price ₹35. Find the surplus and what the government must buy to hold the price.
Qd = 30; Qs = 70. Surplus = 40. The government must buy 40 thousand kg; at ₹35 it spends 40,000 × ₹35 = ₹14,00,000.
3. Same market, ceiling of ₹30. What happens?
Equilibrium is ₹25, below ₹30. The market price is already under the ceiling, so the ceiling has no effect: price ₹25, quantity 50.
4. Qd = 300 − 5P, Qs = 50 + 5P. Find equilibrium, then the shortage at a ceiling of ₹15.
300 − 5P = 50 + 5P → P* = ₹25, Q* = 175. At ₹15: Qd = 225, Qs = 125. Shortage = 100.
5. In the market above, a black marketeer buys the 125 units available at ₹15. What is the highest price buyers would pay for 125 units?
From demand: 125 = 300 − 5P → P = ₹35. So black-market price can go up to ₹35, far above the ceiling.
6. Qd = 90 − 3P, Qs = 10 + 5P. A floor of ₹15 is set. Find the surplus.
Equilibrium: 90 − 3P = 10 + 5P → P* = ₹10, so ₹15 is above it and binds. Qd = 45, Qs = 85. Surplus = 40.
Common mistakes
- Placing a ceiling above equilibrium and then showing a shortage. A binding ceiling is BELOW equilibrium.
- Mixing up the words: ceiling gives shortage, floor gives surplus.
- Measuring the shortage from the equilibrium quantity instead of Qd − Qs at the control price.
- Saying a black market arises from a price floor. It is mainly a result of a ceiling (shortage).