Question

a) If the government imposes a $20 floor price for this good or service, would a surplus or deficit situation ensue on this market? If yes, what is the dollar value of this surplus or deficit? 

b) If the government substitutes a $2 subsidy for the $20 floor price in b), explain how that would affect the demand and/or supply and determine the new equilibrium price and quantity. 

Answer 1

a)A surplus would ensue since the quantity supplied will exceed quantity demanded.

Let $\$x$ be the dollar value before the surplus; after the surplus, the dollar will have a value of

$\$(x+20)$

b)Because of the $\$2$ subsidy, the demand will increase since consumers are able to consume more at a lower price. There will be an increase in supply too since producers are able to sell more at a higher price.

Let the original price P ;

After the subsidy, the equilibrium price will become $\$(P+2)$

Let original quantity be Q. After the subsidy, the quantity will increase by say x.

Hence the equilibrium quantity will be; $(Q+x)$ units