Principles of Microeconomics Chapter 4 Applications of Demand and Supply

Chapter Applications of Demand and Supply Start Up A Composer Logs On Since the age of seven , I knew that I would be a musician . And from age fourteen , I knew that I would be a composer , says . What he did not know was that he would use computers to carry out his work . He is now a professor of music at Colorado College , and compositions and operas have been performed in the United States , Europe , and Japan . For over 20 years , he has used musical composition software in creating his music . The output is extremely elegant . Performers enjoy looking at such a clear and clean score . The creation of parts out of a full score is as easy as pressing the key on the Changes can easily be inserted into the notation file , which eliminates the need for . In addition , uses computers for playback . I can listen to a relatively accurate digital performance of the score at any given point , with any tempo or instrumentation I choose . The sound quality has improved so much that digital files sound almost identical to real He can also produce on his own and create podcasts so that anyone in the world can hear his music . He engages in of scores and . In my case , I get to keep the copyrights on all of my music . This would have been impossible ten to twelve years ago when composers transferred their rights to publishers . Home pages on the World Wide Web allow me to promote my own Professor also changed the way he teaches music composition . New application software , such as , has opened the way for anyone interested to try to compose music . Whereas his music composition classes used to have music theory prerequisites , today his classes are open to all . started out in 1989 with a Macintosh that had megabytes of random access memory ( RAM ) and an hard drive . It cost him about . Today , he uses a Macintosh Pro with gigabytes of memory ( a bit in a computer has a value of or , a byte is bits , a megabyte is slightly more than million bytes , and a gigabyte is slightly more than megabytes ) burner , and wireless Internet connections . His new computer cost about . Put another way , his first computer had a cost per megabyte of RAM of about 750 . His present computer costs about per megabyte of RAM and is far more powerful . The dramatic rise in the power of personal computers as they fell so steeply in price is just one of the stories about markets we will tell in this chapter , which aims to help you understand how the model of demand and supply applies to the real world . In the first section of this chapter , we will look at several markets that you are likely to have participated in or be familiar market for personal computers , the markets for crude oil and for gasoline , and the stock market . You probably own or have access to a computer . We have all been affected by the sharp swings in the prices of oil and gasoline in recent years . The performance of the stock market is always a major news item and may affect you personally , if not now then in the future . The concepts of demand and supply go a long way in explaining the behavior of equilibrium prices and quantities in all of these markets . The purpose of this section is to allow you to practice using the model of demand and 112

113 Author removed at request of original publisher supply and to get you to start thinking about the myriad ways the model of demand and supply can be applied . In the second part of the chapter we will look at markets in which the government plays a large role in determining prices . By legislating maximum or minimum prices , the government has kept the prices of certain goods below or above equilibrium . We will look at the arguments for direct government intervention in controlling prices as well as the consequences of such policies . As we shall see , preventing the price of a good from finding its own equilibrium often has consequences that may be at odds with the intentions of the policy makers who put the regulations in place . In the third section of the chapter we will look at the market for health care . This market is important because how well ( or poorly ) it works can be a matter of life and death and because it has special characteristics . In particular , markets in which participants do not pay for goods directly but rather have insurers who then pay the suppliers of the goods , operate somewhat differently from those in which participants pay directly for their purchases . This extension of demand and supply analysis , while only scratching the surface on the issues associated with the market for health care , reveals much about how such markets operate . This analysis has become particularly important in the wake of the passage of the Patient Protection and Affordable Care Act in the United States in referred to ( especially by opponents ) as .

Putting Demand and Supply to Work Learning Objectives . Learn how to apply the model of demand and supply to the behavior of equilibrium prices and output in a Variety of markets . Learn basic vocabulary on the organization of firms and explain how the model of demand and supply can be used to understand prices of shares of stock . A shift in either demand or supply , or in both , leads to a change in equilibrium price and equilibrium quantity . We begin this chapter by examining markets in which prices adjust quickly to changes in demand or supply the market for personal computers , the markets for crude oil and gasoline , and the stock market . These markets are thus direct applications of the model of demand and supply . The Personal Computer Market In the , to speak of computers was to speak of IBM , the dominant maker of large mainframe computers used by business and government agencies . Then between 1976 , when Apple Computer introduced its first desktop computer , and 1981 , when IBM produced its first personal computers ( the computer usage expanded dramatically . Only of households owned a personal computer in 1984 . By 2003 , 62 did . After that , the Census Bureau began asking only about Internet usage . By 2009 , more than of households had home Internet access . The tools of demand and supply tell the story from an economic perspective . Technological change has been breathtakingly swift in the computer industry . Because personal computers have changed so dramatically in performance and in the range of the functions they perform , we shall speak of personal computers . The price per unit of desktop computers fell by about half every 50 months during the period . In the first half of the , those prices fell by half every 28 months . In the second half of the , the time fell to every 24 months ( There are other indicators of the phenomenal change in computers . Between 1993 and 1998 , the Bureau of Labor Statistics estimates that central processing unit ( CPU ) speed rose , system memory increased , hard drive capacity soared by , and monitor size went up 13 . It seems safe to say that the dizzying pace of change recorded in the has increased in this century . A computer today is not the same good as a computer even five years ago . To make them comparable , we must adjust for changes in quality . 114

115 Author removed at request of original publisher Initially , most personal computers were manufactured by Apple or Compaq both companies were very profitable . The potential for profits attracted IBM and other firms to the industry . Unlike large mainframe computers , personal computer clones turned out to be fairly easy to manufacture . As shown in Table Personal Computer Shipments , Market Percentage Shares by Vendors , World and United States , 2011 , the top six personal computer manufacturers produced only of the personal computers sold in the world in 2011 , and the largest manufacturer , sold only about of the total in that year . This is a far cry from the more than 90 of the mainframe computer market that IBM once held . The market has become far more competitive . Table Personal Computer Shipments , Market Percentage Shares by Vendors , World and United States , 2011 Company Percentage of World Shipments Company Percentage of Shipments Dell Dell Apple Group Group Others Others Source Says Worldwide Shipments Increased Percent in Second Quarter of 2011 , Newsroom , July 13 , 2011 , Totals may not add due rounding . Figure The Personal Computer Market illustrates changes that have occurred in the computer market . The horizontal axis shows the quantity of personal computers . Thus , the quantity axis can be thought of as a unit of computing power . Similarly , the price axis shows the price per unit of computing power . The rapid increase in the number of firms , together with dramatic technological improvements , led to an increase in supply , shifting the supply curve in Figure The Personal Computer Market to the right from to . Figure The Personal Computer Market

Principles of 116 Price per unit of computing power Quantity of computing power units per year The supply curve for shifted markedly to he , reducing me equilibrium price from and Increasing me equilibrium quantity from ( in 2011 . Demand also shifted to the right from to , as incomes rose and new uses for computers , from mail and social networking to Voice over Internet Protocol ( and Radio Frequency ID ( RFID ) tags ( which allow wireless tracking of commercial shipments via desktop computers ) altered the preferences of consumer and business users . Because we observe a fall in equilibrium price and an increase in equilibrium quantity , we conclude that the rightward shift in supply has outweighed the rightward shift in demand . The power of market forces has profoundly affected the way we live and work . One indication of the increasing importance of computers was that in August 2011 , Mobil , an oil company that had been largest company in the United States in terms of the value of its outstanding stock , was the surpassed by Apple Computer , whose value reached 350 billion . The Markets for Crude Oil and for Gasoline The market for crude oil took a radical turn in 1973 . The price per barrel of crude oil quadrupled between 1973 and 1974 . Price remained high until the early but fell back drastically and remained low for about two decades . In 2004 , the price of oil began to move upward and by 2008 had reached 147 per barrel .

117 Author removed at request of original publisher What caused the dramatic increase in gasoline and oil prices in 2008 ?

It appeared to be increasing worldwide demand outpacing producers increase production much . This increase in demand is illustrated in Figure Increasing Demand for Crude Oil . Figure Increasing Demand for Crude Oil Price per barrel Barrels of crude oil per period The price of oil was 35 per barrel at the beginning of 2004 , as determined by the of world demand , and world supply , 51 . Increasing world demand , prompted largely by increasing demand from China as well as from other , shifted world demand to , pushing the price as high as 140 per barrel by the middle of 2008 . Higher oil prices also increase the cost of producing virtually every good or service since the production of most goods requires transportation . These costs inevitably translate into higher prices for nearly all goods and services . Supply curves of the goods and services thus affected shift to the left , putting downward pressure on output and upward pressure on prices . Graphically , the impact of higher gasoline prices on businesses that use gasoline is illustrated in Figure The Impact of Higher Gasoline Prices . Because higher gasoline prices increase the cost of doing business , they shift the supply curves for nearly all businesses to the left , putting upward pressure on prices and downward pressure on output . In the case shown here , the supply curve in a typical industry shifts from to . This increases the equilibrium price from to and reduces the equilibrium quantity from to . Figure The Impact of Higher Gasoline Prices

Principles of 118 Price 01 Quantity per period Higher gasoline prices increase the cost of producing virtually every good or service . In the case shown here , the supply curve in a typical industry shifts from 51 to 52 . This increases the equilibrium price from to and reduces equilibrium from to . As the world economy slowed dramatically in the second half of 2008 , the demand curve for oil shifted to the left . By November 2008 , the price per barrel had dropped to below 60 per barrel . As gas prices also subsided , so did the threat of higher prices in other industries . The Stock Market The circular flow model suggests that capital , like other factors of production , is supplied by households to firms . Firms , in turn , pay income to those households for the use of their capital . Generally speaking , however , capital is actually owned by firms themselves . General Motors owns its assembly plants , and owns its stores these firms therefore own their capital . But firms , in turn , are owned by those people , of course , live in households . It is through their ownership of firms that households own capital . A firm may be owned by one individual ( a sole proprietorship ) by several individuals ( a partnership ) or by shareholders who own stock in the firm ( a corporation ) Although most firms in the United States are sole or partnerships , the bulk of the nation total output ( about 90 ) is produced by corporations . Corporations also own most of the capital ( machines , plants , buildings , and the like ) This section describes how the prices of shares of corporate stock , shares in the ownership of a

119 Author removed at request of original publisher corporation , are determined by the interaction of demand and supply . Ultimately , the same forces that determine the value of a firm stock determine the value of a sole proprietorship or partnership . When a corporation needs funds to increase its capital or for other reasons , one means at its disposal is to issue new stock in the corporation . Other means include borrowing funds or using past profits . Once the new shares have been sold in what is called an initial public offering ( the corporation receives no further funding as shares of its stock are bought and sold on the secondary market . The secondary market is the market for stocks that have been issued in the past , and the daily news reports about stock prices almost always refer to activity in the secondary market . Generally , the corporations whose shares are traded are not involved in these transactions . The stock market is the set of institutions in which shares of stock are bought and sold . The New York Stock Exchange ( is one such institution . There are many others all over the world , such as the DAX in Germany and the in Mexico . To buy or sell a share of stock , one places an order with a stockbroker who relays the order to one of the traders at the or at some other exchange . The process through which shares of stock are bought and sold can seem chaotic . At many exchanges , traders with orders from customers who want to buy stock shout out the prices those customers are willing to pay . Traders with orders from customers who want to sell shout out offers of prices at which their customers are willing to sell . Some exchanges use electronic trading , but the principle is the same if the price someone is willing to pay matches the price at which someone else is willing to sell , the trade is made . The most recent price at which a stock has traded is reported almost instantaneously throughout the world . Figure Demand and Supply in the Stock Market applies the model of demand and supply to the determination of stock prices . Suppose the demand curve for shares in Intel Corporation is given by and the supply by . Even though the total number of shares outstanding is fixed at any point in time , the supply curve is not vertical . Rather , the supply curve is upward sloping because it represents how many shares current owners are prepared to sell at each price , and that number will be greater at higher prices . Suppose that these curves intersect at a price of 25 , at which shares are traded each day . If the price were higher , more shares would be offered for sale than would be demanded , and the price would quickly fall . If the price were lower , more shares would he demanded than would be supplied , and the price would quickly rise . In general , we can expect the prices of shares of stock to move quickly to their equilibrium levels . Demand and Supply In the Stock Market

Principles of 120 Price per share ) 01 Shares per day The equilibrium price of stock shares in Intel Corporation initially 25 . determined by he or demand and supply curves and Si at which ( million shares are traded each day . The intersection of the demand and supply curves for shares of stock in a particular company determines the equilibrium price for a share of stock . But what determines the demand and supply for shares of a company stock ?

The owner of a share of a company stock owns a share of the company , and , hence , a share of its profits typically , a corporation will retain and reinvest some of its profits to increase its future profitability . The profits kept by a company are called retained earnings . Profits distributed to shareholders are called dividends . Because a share of stock gives its owner a claim on part of a company future profits , it follows that the expected level of future profits plays a role in determining the value of its stock . Of course , those future profits can not be known with certainty investors can only predict what they might be , based on information about future demand for the company products , future costs of production , information about the soundness of a company management , and so on . Stock prices in the real world thus reflect estimates of a company profits projected into the future . The downward slope of the demand curve suggests that at lower prices for the stock , more people calculate that the firm future earnings will justify the stock purchase . The upward slope of the supply curve tells us that as the price of the stock rises , more people conclude that the firm future earnings do not justify holding the stock and therefore offer to sell it . At the equilibrium price , the number of

121 Author removed at request of original publisher shares supplied by people who think holding the stock no longer makes sense just balances the number of shares demanded by people who think it does . What factors , then , cause the demand or supply curves for shares of stocks to shift ?

The most important factor is a change in the expectations of a company future profits . Suppose Intel announces a new generation of computer chips that will lead to faster computers with larger memories . Current owners of Intel stock would adjust upward their estimates of what the value of a share of Intel stock should be . At the old equilibrium price of 25 fewer owners of Intel stock would be willing to sell . Since this would be true at every possible share price , the supply curve for Intel stock would shift to the left , as shown in Figure A Change in Expectations Affects the Price of Corporate Stock . Just as the expectation that a company will be more profitable shifts the supply curve for its stock to the left , that same change in expectations will cause more people to want to purchase the stock , shifting the demand curve to the right . In Figure A Change in Expectations Affects the Price of Corporate Stock , we see the supply curve shifting to the left , from to 52 , while the demand curve shifts to the right , from to . A Change Affects the Price of Stock Price per share Shares of Intel stock per day If that Company IS likely he . then the Supply of the shifts to the left ( ease . st st ) and the the stock shifts to the ( In this ease , In at . Increase In . Other factors may alter the price of an individual corporation share of stock or the level of stock prices in general . For example , demographic change and rising incomes have affected the demand for stocks in recent years . For example , with a large proportion of the population nearing retirement age and beginning to think about and plan for their lives during retirement , the demand for stocks has risen .

Principles of 122 Information on the economy as a whole is also likely to affect stock prices . If the economy overall is doing well and people expect that to continue , they may become more optimistic about how profitable companies will be in general , and thus the prices of stocks will rise . Conversely , expectations of a sluggish economy , as happened in the fall of 2008 , could cause stock prices in general to fall . The stock market is bombarded with new information every minute of every day . Firms announce their profits of the previous quarter . They announce that they plan to move into a new product line or sell their goods in another country . We learn that the price of Company A good , which is a substitute for one sold by Company , has risen . We learn that countries sign trade agreements , launch wars , or make peace . All of this information may affect stock prices because any information can affect how buyers and sellers value companies . Key Ta Technological change , which has caused the supply curve for computing power to shift to the right , is the main reason for the rapid increase in equilibrium quantity and decrease in equilibrium price of personal computers . The increase in crude oil and gasoline prices in 2008 was driven primarily by increased demand for crude oil , an increase that was created by economic growth throughout the world . Crude oil and gas prices fell markedly as world economic growth subsided later in the year . Higher gasoline prices increased the cost of producing virtually every good and service , shifting supply curves for most goods and services to the left . This tended to push prices up and output down . Demand and supply determine prices of shares of corporate stock . The equilibrium price of a share of stock strikes a balance between those who think the stock is worth more and those who think it is worth less than the current price . If a company profits are expected to increase , the demand curve for its stock shifts to the right and the supply curve shifts to the left , causing equilibrium price to rise . The opposite would occur if a company profits were expected to decrease . Other factors that the price of corporate stock include demographic and income changes and the overall health of the economy . Suppose an airline announces that its earnings this year are lower than expected due to reduced ticket sales . The airline spokesperson gives no information on how the company plans to turn things around . Use the model of demand and supply to show and explain what is likely to happen to the price of the airline stock .

123 Author removed at request of original publisher Case in Point The Great Recession , the Arab Spring , and the Oil Market barrels of oil . Oil markets have been on a roller coaster ride for the last few years . Even after the official start of the recession in the United States in December 2007 , oil prices continued to climb , peaking in the summer of 2008 at over 130 per barrel . Although demand in the United States and Europe was already weakening , growth in the rest of the world , particularly in China and India , was still strong . Overall , demand was rising . Oil prices dropped precipitously following the start of the financial crisis and the deepening of the recession in the fall of 2008 . Within a few months , the price of oil had dropped to around 40 and was in the 70 to 80 range for much of the rest of 2009 and the first half of 2010 . The Arab Spring actually began with demonstrations late in 2010 in . They quickly spread to Egypt , Syria , Yemen , Algeria , Jordan , Morocco , and Yemen . There were demonstrations in Saudi Arabia , Kuwait , Lebanon , and . By the fall of 2011 , the movement had toppled the regimes of El Ben Ali in , in Egypt , and in Libya . The movement had a large impact on oil prices as it raised questions about the security of oil supplies . The supply curve of oil shifted to the left , forcing the price upward . Not only were several key suppliers of oil affected , but at times the ability to transport oil through the Canal was affected . Oil prices rose to well over 100 per barrel by early 2011 . They then began to subside again as some of the uprisings were subdued or ending , especially in the Gulf countries . By the fall of 2011 , oil prices had fallen about 20 as compared to earlier in the year .

Principles of 124 Answer to Try It ! Problem The information given in the problem suggests that the airline profits are likely to fall below expectations . Current owners of the airline stock and potential buyers of the stock would adjust downward their estimates of what the Value of the corporation stock should be . As a result the supply curve for the stock would increase , shifting it to the right , while the demand curve for the stock would decrease , shifting it to the left . As a result , equilibrium price of the stock falls from to . What happens to equilibrium quantity depends on the extent to which each curve shifts . In the diagram , equilibrium quantity is shown to decrease from to . Price per share Shares per day References , The Lives and Death of Moore index . First Monday ( is a journal on the Internet .

Government Intervention in Market Prices Price Floors and Price Ceilings Learning Objectives . Use the model of demand and supply to explain what happens when the government imposes price or price ceilings . Discuss the reasons why governments sometimes choose to control prices and the consequences of price control policies . So far in this chapter and in the previous chapter , we have learned that markets tend to move toward their equilibrium prices and quantities . Surpluses and shortages of goods are as prices adjust to equate quantity demanded with quantity supplied . In some markets , however , governments have been called on by groups of citizens to intervene to keep prices of certain items higher or lower than what would result from the market finding its own equilibrium price . In this section we will examine agricultural markets and apartment rental markets that have often been subject to price controls . Through these examples , we will identify the effects of controlling prices . In each case , we will look at reasons why governments have chosen to control prices in these markets and the consequences of these policies . Agricultural Price Floors Governments often seek to assist farmers by setting price floors in agricultural markets . A minimum allowable price set above the equilibrium price is a price . With a price floor , the government forbids a price below the minimum . Notice that , if the price were for whatever reason set below the equilibrium price , it would be irrelevant to the determination of the price in the market since nothing would prohibit the price from rising to equilibrium . A price floor that is set above the equilibrium price creates a surplus . Figure Price Floors in Wheat Markets shows the market for wheat . Suppose the government sets the price of wheat at . Notice that is above the equilibrium price of PE . At , we read over to the demand curve to find that the quantity of wheat that buyers will be willing and able to purchase is bushels . Reading over to the supply curve , we find that sellers will offer bushels of wheat at the price floor of . Because is above the equilibrium price , there is a surplus of wheat equal to ( bushels . The surplus persists because the government does not allow the price to fall . 125

Principles of 126 in Wheat Surplus Price per bushel Bushels per year A price for wheat creates a surplus or wheat equal ( WI ) bushels . Why have many governments around the world set price floors in agricultural markets ?

Farming has changed dramatically over the past two centuries . Technological improvements in the form of new equipment , fertilizers , pesticides , and new varieties of crops have led to dramatic increases in crop output per acre . Worldwide production capacity has expanded markedly . As we have learned , technological improvements cause the supply curve to shift to the right , reducing the price of food . While such price reductions have been celebrated in computer markets , farmers have successfully lobbied for government programs aimed at keeping their prices from falling . While the supply curve for agricultural goods has shifted to the right , the demand has increased with rising population and with rising income . But as incomes rise , people spend a smaller and smaller fraction of their incomes on food . While the demand for food has increased , that increase has not been nearly as great as the increase in supply . Figure Supply and Demand Shifts for Agricultural Products shows that the supply curve has shifted much farther to the right , from to 52 , than the demand curve has , from to . As a result , equilibrium quantity has risen dramatically , from to , and equilibrium price has fallen , from to . On top of this historical trend in agriculture , agricultural prices are subject to wide swings over shorter periods . Droughts or freezes can sharply reduce supplies of particular crops , causing sudden increases in prices . Demand for agricultural goods of one country can suddenly dry up if the government

127 Author removed at request of original publisher of another country imposes trade restrictions against its products , and prices can fall . Such dramatic shifts in prices and quantities make incomes of farmers unstable . Figure Supply and Demand sums for Agricultural Price per uni Quantity per period A relatively Increase in me supply of agricultural . by a relatively small increase in demand . has reduced me pure received by farmers and increased me quantity of agricultural . The Great Depression of the led to a major federal role in agriculture . The Depression affected the entire economy , but it hit farmers particularly hard . Prices received by farmers plunged nearly from 1930 to 1933 . Many farmers had a tough time keeping up mortgage payments . By 1932 , more than half of all farm loans were in default . Farm legislation passed during the Great Depression has been modified many times , but the federal government has continued its direct involvement in agricultural markets . This has meant a variety of government programs that guarantee a minimum price for some types of agricultural products . These programs have been accompanied by government purchases of any surplus , by requirements to restrict acreage in order to limit those surpluses , by crop or production restrictions , and the like . To see how such policies work , look back at Figure Price Floors in Wheat Markets . At , bushels of wheat will be supplied . With that much wheat on the market , there is market pressure on the price of wheat to fall . To prevent price from falling , the government buys the surplus of ( bushels of wheat , so that only bushels are actually available to private consumers for purchase on the

Principles of 128 market . The government can store the surpluses or find special uses for them . For example , surpluses generated in the United States have been shipped to developing countries as or distributed to local school lunch programs . As a variation on this program , the government can require farmers who want to participate in the price support program to reduce acreage in order to limit the size of the surpluses . After 1973 , the government stopped buying the surpluses ( with some exceptions ) and simply guaranteed farmers a target If the average market price for a crop fell below the crop target price , the government paid the difference . If , for example , a crop had a market price of per unit and a target price of per unit , the government would give farmers a payment of for each unit sold . Farmers would thus receive the market price of plus a government payment of per unit . For farmers to receive these payments , they had to agree to remove acres from production and to comply with certain conservation provisions . These restrictions sought to reduce the size of the surplus generated by the target price , which acted as a kind of price floor . What are the effects of such farm support programs ?

The intention is to boost and stabilize farm incomes . But , with price floors , consumers pay more for food than they would otherwise , and governments spend heavily to finance the programs . With the target price approach , consumers pay less , but government financing of the program continues . federal spending for agriculture averaged well over 22 billion per year between 2003 and 2007 , roughly 70 per person . Help to farmers has sometimes been justified on the grounds that it boosts incomes of small farmers . However , since farm aid has generally been allotted on the basis of how much farms produce rather than on a basis , most federal farm support has gone to the largest farms . If the goal is to eliminate poverty among farmers , farm aid could be redesigned to supplement the incomes of small or poor farmers rather than to undermine the functioning of agricultural markets . In 1996 , the Congress passed the Federal Agriculture Improvement and Reform Act of 1996 , or FAIR . The thrust of the new legislation was to do away with the various programs of price support for most crops and hence provide incentives for farmers to respond to market price signals . To protect farmers through a transition period , the act provided for continued payments that were scheduled to decline over a period . However , with prices for many crops falling in 1998 , the Congress passed an emergency aid package that increased payments to farmers . In 2008 , as farm prices reached record highs , Congress passed a farm bill that increased subsidy payments to 40 billion . It did , however , for the first time limit payments to the wealthiest farmers . Individual farmers whose farm incomes exceed ( or million for couples ) would be ineligible for some subsidy programs . Rental Price Ceilings The purpose of rent control is to make rental units cheaper for tenants than they would otherwise be . Unlike agricultural price controls , rent control in the United States has been largely a local phenomenon , although there were national rent controls in effect during World War II . Currently , about 200 cities and counties have some type of rent control provisions , and about 10 of rental units in the United States are now subject to price controls . New York City rent control program , which began in 1943 , is among the oldest in the country . Many other cities in the United States adopted some form of rent control in the

129 Author removed at request of original publisher . Rent controls have been pervasive in Europe since World War I , and many large cities in poorer countries have also adopted rent controls . Rent controls in different cities differ in terms of their . Some cities allow rent increases for specified reasons , such as to make improvements in apartments or to allow rents to keep pace with price increases elsewhere in the economy . Often , rental housing constructed after the imposition of the rent control ordinances is exempted . Apartments that are vacated may also be . For simplicity , the model presented here assumes that apartment rents are controlled at a price that does not change . Effect Calling on ( he Market for Shortage Rent per apartment per period Apartments per period A price on apartment rents um 15 SH below me ( a shortage at apartments equal IO ( apartments . Figure Effect of a Price Ceiling on the Market for Apartments shows the market for rental apartments . Notice that the demand and supply curves are drawn to look like all the other demand and supply curves you have encountered so far in this text the demand curve is and the supply curve is . The demand curve shows that a higher price ( rent ) reduces the quantity of apartments demanded . For example , with higher rents , more young people will choose to live at home with their parents . With lower rents , more will choose to live in apartments . Higher rents may encourage more apartment sharing lower rents would induce more people to live alone . The supply curve is drawn to show that as rent increases , property owners will be encouraged to offer

Principles of 130 more apartments to rent . Even though an aerial photograph of a city would show apartments to be fixed at a point in time , owners of those properties will decide how many to rent depending on the amount of rent they anticipate . Higher rents may also induce some homeowners to rent out apartment space . In addition , renting out apartments implies a certain level of service to renters , so that low rents may lead some property owners to keep some apartments vacant . Rent control is an example of a price ceiling , a maximum allowable price . With a price ceiling , the government forbids a price above the maximum . A price ceiling that is set below the equilibrium price creates a shortage that will persist . Suppose the government sets the price of an apartment at in Figure Effect of a Price Ceiling on the Market for Apartments . Notice that is below the equilibrium price of PE . At , we read over to the supply curve to find that sellers are willing to offer apartments . Reading over to the demand curve , we find that consumers would like to rent apartments at the price ceiling of . Because is below the equilibrium price , there is a shortage of apartments equal to ( Notice that if the price ceiling were set above the equilibrium price it would have no effect on the market since the law would not prohibit the price from settling at an equilibrium price that is lower than the price ceiling . The Consequences Control Rent per apartment per period ( Apartments per period at a shortage or ( Ar . For Ar apartments , consumers are and able to pay leads to payments apartment owners . If rent control creates a shortage of apartments , why do some citizens nonetheless clamor for rent control

131 Author removed at request of original publisher and why do governments often give in to the demands ?

The reason generally given for rent control is to keep apartments affordable for and tenants . But the reduced quantity of apartments supplied must be rationed in some way , since , at the price ceiling , the quantity demanded would exceed the quantity supplied . Current occupants may be reluctant to leave their dwellings because finding other apartments will be difficult . As apartments do become available , there will be a line of potential renters waiting to fill them , any of whom is willing to pay the controlled price of or more . In fact , reading up to the demand curve in Figure The Unintended Consequences of Rent Control from apartments , the quantity available at , you can see that for apartments , there are potential renters willing and able to pay . This often leads to various backdoor payments to apartment owners , such as large security deposits , payments for things renters may not want ( such as furniture ) key payments ( The monthly rent is 500 and the key price is ) or simple bribes . In the end , rent controls and other price ceilings often end up hurting some of the people they are intended to help . Many people will have trouble finding apartments to rent . Ironically , some of those who do find apartments may actually end up paying more than they would have paid in the absence of rent control . And many of the people that the rent controls do help ( primarily current occupants , regardless of their income , and those lucky enough to find apartments ) are not those they are intended to help ( the poor ) There are also costs in government administration and enforcement . Because New York City has the longest history of rent controls of any city in the United States , its program has been widely studied . There is general agreement that the rent control program has reduced tenant mobility , led to a substantial gap between rents on controlled and uncontrolled units , and favored residents at the expense of newcomers to the city ( 1955 ) These distortions have grown over time , another frequent consequence of price controls . A more direct means of helping poor tenants , one that would avoid interfering with the functioning of the market , would be to subsidize their incomes . As with price floors , interfering with the market mechanism may solve one problem , but it creates many others at the same time . Key Ta Price create surpluses by fixing the price above the equilibrium price . At the price set by the floor , the quantity supplied exceeds the quantity demanded . In agriculture , price floors have created persistent surpluses of a wide range of agricultural commodities . Governments typically purchase the amount of the surplus or impose production restrictions in an attempt to reduce the surplus . Price ceilings create shortages by setting the price below the equilibrium . At the ceiling price , the quantity demanded exceeds the quantity supplied . Rent controls are an example of a price ceiling , and thus they create shortages of rental housing . It is sometimes the case that rent controls create backdoor arrangements , ranging from requirements that tenants rent items that they do not want to outright bribes , that result in rents higher than would exist in the absence of the ceiling .

Principles of 132 Try It ! A minimum wage law is another example of a price . Draw demand and supply curves for unskilled labor . The horizontal axis will show the quantity of unskilled labor per period and the vertical axis will show the hourly wage rate for unskilled workers , which is the price of unskilled labor . Show and explain the effect of a minimum wage that is above the equilibrium wage . Case in Point Corn It Is Not Just Food Any More Brevity isn funny Block Stocks . Government support for corn dates back to the Agricultural Act of 1938 and , in one form or another , has been part of agricultural legislation ever since . Types of supports have ranged from government purchases of surpluses to target pricing , land set , and loan guarantees . According to one estimate , the government spent nearly 42 billion to support corn between 1995 and 2004 . Then , during the period of rising oil prices of the late and mounting concerns about dependence on foreign oil from volatile regions in the world , support for corn , not as a food , but rather as an input into the production of alternative to . Ethanol tax credits were part of the Energy Act of 1978 . Since 1980 , a tariff of per gallon against imported ethanol , even higher today , has served to protect domestic ethanol from imported ethanol , in particular from ethanol from Brazil .

133 Author removed at request of original publisher The Energy Policy Act of 2005 was another milestone in ethanol legislation . Through loan guarantees , support for research and development , and tax credits , it mandated that billion gallons of ethanol be used by 2006 and billion gallons by 2012 . Ethanol production had already reached billion gallons by 2007 , so new legislation in 2007 upped the ante to 15 billion gallons by 2015 . Beyond the increased amount the government is spending to support corn and ethanol , criticism of the policy has three major prongs . ethanol does little to reduce dependence on foreign oil because the energy required to produce a gallon of ethanol is quite high . A 2006 National Academy of Sciences paper estimated that one gallon of ethanol is needed to bring gallons of it to market . Other studies show an even less favorable ratio . such as ethanol , are having detrimental effects on the environment , with increased deforestation , stemming from more land being used to grow fuel inputs , contributing to global warming . The diversion of corn and other crops from food to fuel is contributing to rising food prices and an increase in world hunger . Ford and Benjamin wrote in Foreign Affairs that even small increases in prices of food staples have severe consequences on the very poor of the world , and Filling the tank of an SUV with pure ethanol requires over 450 pounds of contains enough calories to feed one person for a Some of these criticisms may be contested as exaggerated Will the ratio of to improve as new technologies emerge for producing ethanol ?

Did not other factors , such as weather and rising food demand worldwide , contribute to higher grain prices ?

Nonetheless , it is clear that ethanol is no free lunch . It is also clear that the end of government support for corn is nowhere to be seen . Sources Alexei , Mountains of Corn and a Sea of Farm Subsidies , New York Times , November , 2005 , online version David , Children of the Corn , National Review Online , May , 2008 Ford and Benjamin , How Could Starve the Poor , Foreign Affairs , 2007 , online version Michael , The Clean Energy Scam , Time 171114 ( April , 2008 ) Answer to Try It ! Problem A minimum wage ( that is set above the equilibrium wage would create a surplus of unskilled labor equal to ( That is , units of unskilled labor are offered at the minimum wage , but companies only want to use units at that wage . Because unskilled workers are a substitute for a skilled workers , forcing the price of unskilled workers higher would increase the demand for skilled labor and thus increase their wages .

Principles of 134 min Price of labor per hour ( wage ) Surplus Quantity of labor per period References , Time for Revisionism on Rent Control , Journal of Economic Perspectives ( Winter , 1995 ) The Market for Services Learning Objective . Use the model of demand and supply to explain the effects of payers on the care market and on spending . There has been much discussion over the past three decades about the problem in the United States . Much of this discussion has focused on rising spending for health care . In this section , we will apply the model of demand and supply to health care to see what we can learn about some of the reasons behind rising spending in this important sector of the economy . Figure Spending as a Percentage of Output , shows the share of output devoted to health care since 1960 . In 1960 , about of total output was devoted to health care by 2009 this share had risen to . That means that we are devoting more of our spending to health care and less to other goods and services . The Affordable Care Act of 2010 dramatically impacted health care services . Among its provisions is a requirement that individuals purchase health insurance ( the individual mandate ) That provision may well result in the entire Act being ruled unconstitutional by the courts . As this book went to press , the Act was pending before the court system , and a ruling against it , or at least against parts of it , seemed possible . The Act requires insurance companies to provide coverage for children on their parent policies up to the age of 26 . It also bars health insurance companies from denying coverage based on conditions . Provisions of the Act are extensive . It applies to virtually every aspect of health care services . It allows people to acquire health care insurance regardless of conditions . It also allows employers to opt out of providing health insurance and to pay a fee instead . Figure Spending as a of us . Output , 1950 was 135

Principles of 136 18 , 16 14 12 10 Percentage of output I I I I I I I I 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 Year Health saws sham . from about 111 ID in 2009 . Data for from Health Care Association ( was the the Centers ( or Medicare and ) Data ( or from for and Medicaid . Office of the Actuary National Health Statistics National ! Why were Americans willing to increase their spending on health care so dramatically ?

The model of demand and supply gives us part of the answer . As we apply the model to this problem , we will also gain a better understanding of the role of prices in a market economy . The Demand and Supply for Health Care Total Spending for Office Visits

137 Author removed at request of original publisher Price per visit 30 Number of physician visits per week office IS 30 per Visit by per week , which equals . II is he BYEE by lCE and . When we speak of health care , we are speaking of the entire industry . This industry produces services ranging from heart transplant operations to therapeutic massages it produces goods ranging from machines to aspirin tablets . Clearly each of these goods and services is exchanged in a particular market . To assess the market forces affecting health care , we will focus first on just one of these markets the market for physician office visits . When you go to the doctor , you are part of the demand for these visits . Your doctor , by seeing you , is part of the supply . Figure Total Spending for Physician Office Visits shows the market , assuming that it operates in a fashion similar to other markets . The demand curve and the supply curve intersect at point , with an equilibrium price of 30 per office visit . The equilibrium quantity of office visits per week is . We can use the demand and supply graph to show total spending , which equals the price per unit ( in this case , 30 per visit ) times the quantity consumed ( in this case , visits per week ) Total spending for physician office visits thus equals per week ( 30 times visits ) We show total spending as the area of a rectangle bounded by the price and the quantity . It is the shaded region in Figure Total Spending for Physician Office Visits . The picture in Figure Total Spending for Physician Office Visits misses a crucial feature of the market . Most people in the United States have health insurance , provided either by private firms , by private purchases , or by the government . With health insurance , people agree to pay a fixed amount to the insurer in exchange for the insurer agreement to pay for most of the expenses they

Principles of 138 incur . While insurance plans differ in their specific provisions , let us suppose that all individuals have plans that require them to pay 10 for an office visit the insurance company will pay the rest . How will this insurance affect the market for physician office visits ?

If it costs only 10 for a visit instead of 30 , people will visit their doctors more often . The quantity of office visits demanded will increase . In Figure Total Spending for Physician Office Visits Covered by Insurance , this is shown as a movement along the demand curve . Think about your own choices . When you get a cold , do you go to the doctor ?

Probably not , if it is a minor cold . But if you feel like you are dying , or wish you were , you probably head for the doctor . Clearly , there are lots of colds in between these two extremes . Whether you drag yourself to the doctor will depend on the severity of your cold and what you will pay for a visit . At a lower price , you are more likely to go to the doctor at a higher price , you are less likely to go . In the case shown , the quantity of office visits rises to per week . But that suggests a potential problem . The quantity of visits supplied at a price of 30 per visit was . According to supply curve , it will take a price of 50 per visit to increase the quantity supplied to visits ( Point on ) But only 10 . Insurers make up the difference between the fees doctors receive and the price patients pay . In our example , insurers pay 40 per visit of insured patients to supplement the 10 that patients pay . When an agent other than the seller or the buyer pays part of the price of a good or service , we say that the agent is a payer . Notice how the presence of a payer affects total spending on office visits . people paid for their own visits , and the price equaled 30 per visit , total spending equaled 30 million per week . Now doctors receive 50 per visit and provide visits per week . Total spending has risen to 75 million per week ( 50 times visits , shown by the darkly shaded region plus the lightly shaded region ) Figure Total Spending for Physician Office Visits Covered by Insurance

139 Author removed at request of original publisher Doctors receive 50 50 per visit . Insurers pay 30 40 per visit . 10 Patients pay 10 per visit . Number of physician visits per week With insurance , the quantity of physician office visits demanded rises to . The supply curve shows that it takes a price of 50 per visit to increase the quantity supplied to visits . Patients pay 10 per visit and insurance pays 40 per visit . Total spending rises to per week , shown by the darkly shaded region plus the lightly shaded region . The response described in Figure Total Spending for Physician Office Visits Covered by Insurance holds for many different types of goods and services covered by insurance or otherwise paid for by payers . For example , the availability of scholarships and subsidized tuition at public and private universities increases the quantity of education demanded and the total expenditures on higher education . In markets with payers , an equilibrium is achieved , but it is not at the intersection of the demand and supply curves . The effect of payers is to decrease the price that consumers directly pay for the goods and services they consume and to increase the price that suppliers receive . Consumers use more than they would in the absence of payers , and providers are encouraged to supply more than they otherwise would . The result is increased total spending . Key Ta The rising share of the output of the United States devoted to health care represents a rising opportunity cost . More spending on health care means less spending on other goods and services , compared to what would have transpired had spending not risen so much . The model of demand and supply can be used to show the effect of payers on total spending . With payers ( for example , health insurers ) the quantity of services consumed rises , as does spending .

Principles of 140 Try It ! The provision of university education through state universities is another example of a market with a payer . Use the model of demand and supply to discuss the impact this has on the higher education market . Specifically , draw a graph similar to Figure Total Spending for Physician Office Visits Covered by Insurance . How would you label the axes ?

Show the equilibrium price and quantity in the absence of a payer and indicate total spending on education . Now show the impact of lower tuition As a result of state support for education . How much education do students demand at the lower tuition ?

How much tuition must educational institutions receive to produce that much education ?

How much spending on education will occur ?

Compare total spending before and after a payer enters this market . Case in Point The Oregon Plan Washington Slate House Republican care . The industry presents us with a dilemma . Clearly , it makes sense for people to have health insurance . Just as clearly , health insurance generates a substantial increase in spending for health care . If that spending is to be limited , some mechanism must be chosen to do it . One mechanism would be to require patients to pay a larger share of their own consumption directly , reducing the payments made by payers . Allowing people to accumulate private medical savings accounts is one way to do this . Another option is to continue the current trend to use insurance companies as the agents that limit spending . A third option is government regulation this Case in Point describes how the state of Oregon tried to limit spending by essentially refusing to be a payer for certain services .

141 Author removed at request of original publisher Like all other states , Oregon has wrestled with the problem of soaring Medicaid costs . Its solution to the problem illustrates some of the choices society might make in seeking to reduce costs . Oregon used to have a plan similar to plans in many other states . Households whose incomes were lower than 50 of the poverty line qualified for Medicaid . In 1987 , the state began an effort to manage its Medicaid costs . It decided that it would no longer fund organ transplants and that it would use the money saved to give better care to pregnant women . The decision turned out to be a painful one the first year , a boy with leukemia , who might have been saved with a bone marrow transplant , died . But state officials argued that the shift of expenditures to pregnant women would ultimately save more lives . The state gradually expanded its concept of determining what services to fund and what services not to fund . It collapsed a list of different diagnoses that had been submitted to its Medicaid program in the past into a list of more than 700 pairs . One such pair , for example , is appendectomy . officials then ranked these pairs in order of priority . The rankings were based on such factors as the seriousness of a particular condition and the cost and efficacy of treatments . The state announced that it would provide Medicaid to all households below the poverty line , but that it would not fund any procedure ranked below a certain level , initially number 588 on its list . The plan also set a budget limit for any one year if spending rose above that limit , the legislature must appropriate additional money or drop additional procedures from the list of those covered by the plan . The Oregon Health Plan officially began operation in 1994 . While the Oregon plan has been applied only to households below the poverty line that are not covered by other programs , it suggests a means of reducing spending . Clearly , if part of the problem is excessive provision of services , a system designed to cut services must determine what treatments not to fund . Professors Jonathan , Theodore , and Lawrence Jacobs studied the impact of this plan in practice through the year 2000 and found that , in contrast to initial expectations , excluded procedures were generally ones of marginal medical value , so the line in the sand had little practical significance . In addition , they found that patients were often able to receive supposedly excluded services when physicians , for example , treated an uncovered illness in conjunction with a covered one . During the period of the study , the number of people covered by the plan expanded substantially and yet rationing of services essentially did not occur . How do they explain this seeming contradiction ?

Quite simply state government increased revenues from various sources to support the plan . Indeed , they argue that , because treatments that might not be included were explicitly stated , political pressure made excluding them even more difficult and may have inadvertently increased the cost of the program . In the early , Oregon , like many other states , confronted severe budgetary pressures . To limit spending , it chose the perhaps less visible strategy of reducing the number of people covered through the plan . Once serving more than people , budget cuts reduced the number served to about . Whereas in 1996 , 11 of lacked health insurance , in 2008 16 did . Trailblazing again , in 2008 Oregon realized that its budget allowed room for coverage for a few thousand additional people . But how to choose among the ?

The solution to hold a lottery . More than people queued up , hoping to be lucky winners . Sources Jonathan , Theodore , and Lawrence Jacobs , Rationing Medical Care Rhetoric and Reality in the Oregon Health Plan , Canadian Journal 164 11 ( May 29 , 2001 ) William , Drawing Lots for Health Care , The New York limes , March 13 , 2008 .

Principles of 142 Answer to Try It ! Problem Without a payer for education , the graph shows equilibrium tuition of and equilibrium quantity of education of . State support for education lowers tuition that students pay to . As a result , students demand courses per year . To provide that amount of education , educational institutions require tuition per course of . Without a payer , spending on education is . With a payer , spending rises to . Tuition per course 02 Number of courses per year

Review and Practice Summary In this chapter we used the tools of demand and supply to understand a wide variety of market outcomes . We learned that technological change and the entry of new sellers has caused the supply curve of personal computers to shift markedly to the right , thereby reducing equilibrium price and increasing equilibrium quantity . Market forces have made personal computers a common item in offices and homes . Crude oil and gasoline prices soared in 2008 and then fell back , rising again in 2011 as a result of the disruption created by the Arab Spring . We looked at the causes of these increases as well as their impacts . Crude oil prices rose in large part As a result of increased demand , particularly from China . Higher prices for crude oil led to higher prices for gasoline . Those higher prices not only hurt consumers of gasoline , they also put upward pressure on the prices of a wide range of goods and services . Crude oil and gasoline prices then decreased dramatically in the last part of 2008 , as world growth declined . The model of demand and supply also explains the determination of stock prices . The price per share of corporate stock the market estimate of the expected profitability of the firm . Any information about the firm that causes potential buyers or current owners of corporate stock to reevaluate how profitable they think the firm is , or will be , will cause the equilibrium price of the stock to change . We then examined markets in which some of government price control keeps price permanently above or below equilibrium . A price leads to persistent surpluses because it is set above the equilibrium price , whereas a price ceiling , because it is set below the equilibrium price , leads to persistent shortages . We saw that interfering with the market mechanism may solve one problem but often creates other problems at the same time . We discussed what some of these unintended consequences might be . For example , agricultural price floors aimed at boosting farm income have also raised prices for consumers and cost taxpayers dearly , and the bulk of government payments have gone to large farms . Rent controls have lowered rents , but they have also reduced the quantity of rental housing supplied , created shortages , and sometimes led to various of backdoor payments , which sometimes force the price of rental housing above what would exist in the absence of controls . Finally , we looked at the market for health care and a special feature behind demand and supply in this market that helps to explain why the share of output of the United States that is devoted to health care has risen . Health care is an example of a market in which there are payers ( primarily private insurers and the government ) With payers the quantity of services consumed rises , as does spending . Concept Problems . Like personal computers , digital cameras have become a common household item . Digital camera prices have plunged in the last 10 years . Use the model of demand and supply to explain the fall 143

Principles of 144 10 . 11 . 12 . 13 . in price and increase in quantity . was one of several corporations convicted of fraud in its accounting practices during the early part of this decade . It had created dummy corporations to hide massive borrowing and to give it the appearance of extraordinary profitability . Use the model of demand and supply to explain the likely impact of such convictions on the stocks of other corporations . During World War 11 there was a freeze on wages , and corporations found they could evade the freeze by providing other fringe benefits such as retirement funds and health insurance for their employees . The Office of Price Administration , which administered the wage freeze , ruled that the offer of retirement funds and health literature was not a violation of the freeze . The Internal Revenue Service went along with this and ruled that retirement and health insurance plans were not taxable income . Was the wage freeze an example of a price floor or a price ceiling ?

Use the model of demand and supply to explain why employers began to offer such benefits to their employees . The text argues that political instability in potential suppliers of oil such as Iraq and Venezuela accounts for a relatively steep supply curve for crude oil such as the one shown in Figure Increasing Demand for Crude Oil . Suppose that this instability eases considerably and that the world supply curve for crude oil becomes much . Draw such a curve , and explain its implications for the world economy and for typical consumers . Suppose that technological change affects the dairy industry in the same way it has affected the computer industry . However , suppose that dairy price supports remain in place . How would this affect government spending on the dairy program ?

Use the model of demand and supply to support your answer . People often argue that there is a shortage of child care . Using the model of demand and supply , evaluate whether this argument is likely to be correct . During most of the past 50 years the United States has had a surplus of farmers , and this has been the root of the farm Comment . Suppose the Department of Agriculture ordered all farmers to reduce the acreage they plant by 10 . Would you expect a 10 reduction in food production ?

Why or why not ?

The text argues that the increase in gasoline prices had a particularly strong impact on income people . Name some other goods and services for which a sharp increase in price would have a similar impact on people with low incomes . Suppose that the United States and the European Union impose a price ceiling on crude oil of 25 per barrel . Explain , and illustrate graphically , how this would affect the markets for crude oil and for gasoline in the United States and in the European Union . Given that rent controls can actually hurt people , devise a housing strategy that would provide affordable housing for those whose incomes fall below the poverty line ( in 2010 , this was about for a family of four ) Using the model of demand and supply , show and explain how an increase in the share individuals must pay directly for medical care affects the quantity they consume . Explain how this would address the total amount of spending on health care . Given that people pay premiums for their health insurance , how can we say that insurance lowers the prices people pay for services ?

Suppose that physicians now charge 30 for an office visit and insurance policies require patients 145 Author removed at request of original publisher to pay 33 of the amount they pay the physicians , so the cost to consumers is 10 per visit . In an effort to control costs , the government imposes a price ceiling of 27 per office visit . Using a demand and supply model , show how this policy would affect the market for health care . 15 . Do you think the system requires reform ?

Why or why not ?

If you think reform is in order , explain the approach to reform you advocate . Numerical Problems Problems are based on the following demand and supply schedules for corn ( all quantities are in millions of bushels per year ) Price per bushel Quantity demanded Quantity supplied . Draw the demand and supply curves for . What is the equilibrium price ?

The equilibrium quantity ?

Suppose the government now imposes a price at per bushel . Show the effect of this program graphically . How large is the surplus of ?

With the price floor , how much do farmers receive for their corn ?

How much would they have received if there were no price floor ?

If the government buys all the surplus wheat , how much will it spend ?

Problems are based on the following hypothetical demand and supply curves for apartments Principles of 146 Number of . 200 400 600 800 1000 1200 Draw the demand and supply curves for apartments . What is the equilibrium rent per month ?

At this rent , what is the number of apartments demanded Number of . and supplied per month ?

Suppose a ceiling on rents is set at 400 per month . Characterize the situation that results from this policy . At the rent ceiling , how many apartments are demanded ?

How many are supplied ?

How much are people willing to pay for the number of apartments supplied at the ceiling ?

Describe the arrangements to which this situation might lead .