Maximum and minimum prices

Maximum prices (price ceilings)

A maximum price is a legal upper limit on price. To have any effect it must be set below the equilibrium price. Examples: rent controls, caps on food or energy prices.

Diagram in words: D and S cross at Pe, Qe. Draw a horizontal line at Pmax, lower than Pe. At Pmax, quantity demanded (Qd, read from D) is greater than quantity supplied (Qs, read from S): excess demand equal to the horizontal gap Qs to Qd.

Aims: make essential goods affordable, protect consumers from exploitation, reduce inequality.

Problems:

• shortages, because less is supplied than before (Qs is less than Qe)
• goods must be rationed by queues, waiting lists or favouritism
• black markets develop where goods are resold illegally at higher prices
• producers may cut quality (landlords stop maintaining rented flats)
• in the long run supply falls further as firms leave the market

Minimum prices (price floors)

A minimum price is a legal lower limit. To have an effect it must be set higher than the equilibrium price. Examples: minimum prices for agricultural products to protect farmers' incomes; minimum unit prices for alcohol to reduce consumption; a minimum wage (a minimum price for labour).

Diagram in words: a horizontal line at Pmin, higher than Pe. Quantity supplied (Qs) is greater than quantity demanded (Qd): excess supply, the gap Qd to Qs.

Aims: raise and stabilise producers' incomes; reduce consumption of harmful goods (demerit goods).

Problems:

• surpluses; if the government buys the surplus to keep the price up, this costs taxpayers (Pmin x surplus) and the goods must be stored or destroyed
• higher prices for consumers, hitting poorer households
• inefficient producers are protected
• if demand is inelastic (alcohol), consumption falls only a little

Exam technique: price control diagrams

Show the control line clearly on the correct side of equilibrium, read off Qd and Qs, label the excess demand or excess supply, and if the government buys a surplus, shade the rectangle Pmin x (Qs - Qd) as the cost. In evaluation, discuss the elasticities of demand and supply (they decide the size of the shortage or surplus), how the policy is enforced, and whether a black market appears.

Worked example

Demand is Qd = 120 - 4P and supply Qs = -20 + 3P, so equilibrium P = 20. The government sets a maximum price of $15. Calculate the excess demand.

1. At $15: Qd = 120 - 4 x 15 = 60.
2. Qs = -20 + 3 x 15 = 25.
3. Excess demand = 60 - 25 = 35.

Answer: A shortage of 35 units; quantity actually traded falls to 25, less than the 40 traded at equilibrium.

Check yourself

1. Using Qd = 120 - 4P and Qs = -20 + 3P, the government sets a minimum price of $25. Calculate the excess supply.
   Show answer

   35 units. Qs = 55, Qd = 20; excess supply = 35.

2. In the same market the government buys the whole surplus at the minimum price of $25. Calculate the cost to the government.
   Show answer

   $875. 25 x 35 = 875.

3. With the maximum price of $15 in the lesson's market, how many fewer units are traded than at the free market equilibrium?
   Show answer

   15 units. Traded quantity is limited by supply: 25, compared with 40: 15 fewer.

4. For a maximum price to have an effect on the market, it must be set
   • lower than the equilibrium price
   • higher than the equilibrium price
   • equal to the equilibrium price
   • at zero
   Show answer

   lower than the equilibrium price. A ceiling higher than equilibrium does not bind.

5. Which is a likely consequence of a maximum price on rented housing?
   • A surplus of rented homes
   • Higher rents for all tenants
   • A shortage of rented homes and the growth of a black market
   • An increase in the supply of rented homes
   Show answer

   A shortage of rented homes and the growth of a black market. Excess demand leads to queues and illegal side payments.

6. A minimum price for wheat set higher than the equilibrium price will cause
   • excess supply of wheat
   • excess demand for wheat
   • a fall in farmers' revenue per unit
   • a lower price for consumers
   Show answer

   excess supply of wheat. Farmers supply more and consumers buy less at the higher price.

7. Explain why a minimum unit price for alcohol may only reduce consumption by a small amount.
   Show answer

   Demand for alcohol is price inelastic because it is habit forming and has few close substitutes, so a higher price leads to only a small fall in quantity demanded.. Use PED.

Practise with instant feedback Print this lesson

Sources

• Pearson Edexcel International Advanced Subsidiary/Advanced Level in Economics specification (2018)

Last updated 8 November 2026. Spotted a mistake? Tell us.