Price Ceiling

Updated Jan 19, 2023

Definition of Price Ceiling

A price ceiling is a government-imposed limit on the maximum price that can be charged for a good or service. That means it is a form of price control that is used to protect consumers from exploitation by businesses. It is usually imposed in cases where the market price is deemed too high, and the government wants to make the good or service more affordable for the general public.

Example

To illustrate this, let’s look at the market for rent. Without government interference, the market reaches its equilibrium at a price of P₁ and a quantity of Q₁. Now assume the government introduces a rent ceiling to protect tenants from exploitation by landlords. The rent ceiling is set at a price of P₂, which is lower than the equilibrium price. As a consequence, the demand for rental units increases, and the supply decreases. This results in a shortage of rental units and a long waiting list of potential tenants.

Meanwhile, the magnitude of the deadweight loss can be illustrated in a supply and demand diagram. The triangle between the supply and demand curves represents the welfare loss that is caused by the price ceiling.

Why Price Ceilings Matter

Price ceilings are a popular tool for governments to protect consumers from exploitation by businesses. They are especially relevant in cases where the market price is deemed too high, and the government wants to make the good or service more affordable for the general public.

However, it is important to note that price ceilings can also have negative consequences. That is, they can lead to shortages of the good or service, which can be detrimental to both consumers and producers. Therefore, it is important for policymakers to carefully consider the pros and cons of price ceilings before implementing them.