Price ceiling and price floor

The essentials

Sometimes the government does not let the market price prevail. A price ceiling is a legal maximum price set below the equilibrium price, usually to make essential goods (wheat, rice, kerosene) affordable to the poor. A price floor is a legal minimum price set above the equilibrium price, for example a minimum support price (MSP) for crops or a minimum wage for labour.

Key points

• Effects of a price ceiling: excess demand (shortage) at the controlled price; long queues; need for rationing (ration cards, fair price shops); growth of black markets where goods are sold above the ceiling; sellers may lower quality.
• Effects of a price floor: excess supply (surplus) at the support price. To keep the floor, the government must buy the surplus and store it (buffer stocks), which is costly.
• Minimum wage set above the equilibrium wage leads to excess supply of labour (unemployment) in that labour market.
• A ceiling set above the equilibrium price, or a floor set below it, has no effect.
• Shortage = qd − qs at the ceiling price; surplus = qs − qd at the floor price.

Exam tips

• Remember the position: ceiling below equilibrium, floor above equilibrium; otherwise the control is not binding.
• Link examples to India: fair price shops (ceiling) and MSP for wheat and rice (floor).

Common mistakes

• Saying a price ceiling causes surplus. It causes shortage.
• Confusing MSP (a floor that protects farmers) with ration-shop prices (a ceiling that protects consumers).