What Is a Price Ceiling?

A price ceiling is the mandated maximum amount a seller is allowed to charge for a product or service. Usually set by law, price ceilings are typically applied only to staples such as food and energy products when such goods become unaffordable to regular consumers. Some areas have rent ceilings to protect renters from rapidly climbing rates on residences.

A price ceiling is essentially a type of price control. Price ceilings can be advantageous in allowing essentials to be affordable, at least temporarily. However, economists question how beneficial such ceilings are in the long run.

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Price Ceiling

The Basics of Price Ceilings

While price ceilings might seem to be an obviously good thing for consumers, they also carry disadvantages. Certainly, costs go down in the short term, which can stimulate demand. However, producers need to find some way to compensate for the price (and profit) controls. They may ration supply, cut back on production or production quality, or charge extra for (formerly free) options and features. As a result, economists wonder how efficient price ceilings can be at protecting the most vulnerable consumers from high costs or even protecting them at all.

A broader and more theoretical objection to price ceilings is that they create a deadweight loss to society. This term to describe an economic deficiency, caused by an inefficient allocation of resources, that disturbs the equilibrium of a marketplace and contributes to making it more inefficient.

Key Takeaways

  • A price ceiling is a type of price control, usually government-mandated, that sets the maximum amount a seller can charge for a good or service.
  • While they make staples affordable for consumers in the short term, price ceilings often carry long-term disadvantages, such as shortages, extra charges, or lower quality of products.
  • Economists worry that price ceilings cause a deadweight loss to an economy, making it more inefficient.

Rent Ceilings

Rent controls are a frequently cited example of the ineffectiveness of price controls. In the 1940s, they were widely implemented in New York City and other cities in New York State in an effort to help maintain an adequate supply of affordable housing after World War II ended. They continued in a somewhat less restricted form, called rent stabilization, into the 1960s.

However, the actual effect, critics say, has been to reduce the overall supply of available residential rental units, which in turn has led to even higher prices in the market.

Further, some housing analysts say, controlled rental rates also discourage landlords from having the needed funds, or at least committing the necessary expenditures, to maintain or improve rental properties, leading to deterioration in the quality of rental housing.

The opposite of a price ceiling is a price floor, which sets a minimum price at which a product or service can be sold.

Real-Life Example of a Price Ceiling

In the 1970s, the U.S. government imposed price ceilings on gasoline after some sharp rises in oil prices. As a result, shortages quickly developed. The low regulated prices, it was argued, were a disincentive to domestic oil companies to step up (or even maintain) production, as was needed to counter interruptions in oil supply from the Middle East.

As supplies fell short of demand, shortages developed and rationing was often imposed through schemes like alternating days in which only cars with odd- and even-numbered license plates would be served. Those long waits imposed costs on the economy and motorists through lost wages and other negative economic impacts.

The supposed economic relief of controlled gas prices was also offset by some new expenses. Some gas stations sought to compensate for lost revenue by making formerly optional services such as washing the windshield a required part of filling up and imposed charges for them.

The consensus of economists is that consumers would have been better off in every respect had controls never been applied. If the government had simply let prices increase, they argue, the long lines at gas stations may never have developed, and the surcharges never imposed. Oil companies would have bumped up production, due to the higher prices, and consumers, who now had a stronger incentive to conserve gas, would have limited their driving or bought more energy-efficient cars.