Chapter 9, Problem 2CYU

To determine

The question requires us to draw a graph to show the ineffective quota in a market.

Explanation of Solution

A quote puts an upper limit on the quantity sold or purchased in a market. Quota brings inefficiency in the market by generating a deadweight loss.

A fall in demand causes the demand curve to shift to the left and will remove the effect of quota in a market. With the help of the following graph (replication of figure 9.1), this statement can be explained:

  

Initially, the market was producing at point E1 where

Equilibrium quantity = 10 million rides

Equilibrium price = $5

Quantity demanded = quantity supplied = 10 million rides

When government sets a quota of 8 million rides, it limits the quantity sold in the market. At quota,

Demand price = $6

Supply price = $4

Quota rent = $2

After the quota, demand for the product falls and causes the demand curve to shift from D1 to D2 and leading to a new equilibrium (E2) in the market. At point E2, the new equilibrium price where the quantity demanded equals the quantity supplied is $4, and the new equilibrium quantity falls and reaches the quota level set by the government at 8 million rides.

So, even in the presence of a quota, the market is clear.

Therefore, a fall in demand will reduce the impact of quota on the quantity sold in a market.