Quantitative Question 1 of 3:

A perfectly competitive set of firms produce widgets.

The supply curve is given by P = 10 + Q.

The demand curve is given by P = 70 - 2Q.

The government decides that the price of widgets is too high and sets a price cap of P' = 20.

(a) (4 points) What will be the equilibrium prices and quantities with and without the price cap?

(b) (6 points) If the good is allocated to the consumers who value it the most, does consumer surplus rise, fall or stay the same relative to the unregulated market (i.e., the competitive equilibrium without the price cap)?

(c) (6 points) If the government instead uses a lottery to allocate the good, calculate the change consumer surplus relative to the unregulated market (i.e., the competitive equilibrium without the price cap)?

(d) (4 points) Briefly explain whether the deadweight loss associated price caps would be higher, lower or the same if the production of the good also created a negative externality.