Query:
The Texas Minimal Development Requirements require that every one plumbing fixtures be WaterSense licensed. Examples of necessities underneath these requirements embrace low-flow taps, bathe heads, and bogs.
Suppose, for the sake of argument, that earlier than the requirement for low-flow bogs went into impact, putting in a normal-flow bathroom price $250. Suppose additionally that putting in a low-flow bathroom prices plumbers an extra $100 underneath the rules, and that their prospects worth the financial savings from low-flow bogs at $25 per bathroom.
Illustrate how the demand and provide curves for bathrooms shift because of the legislation. What occurs to the worth of a brand new bathroom (offering a variety of recent costs is ample)? Who good points from the legislation: plumbers, their prospects, each, or neither? Justify your reply.
Resolution:
I take advantage of this query within the classroom to focus on a number of concepts. For one, it’s not clear that product-quality mandates essentially make customers higher off. I say not clear as a result of such mandates could also be supposed to deal with an externality.
As an example, my former colleague at Texas Tech College, Adam Martin, as soon as identified that West Texas—like a number of different areas of the American West—depends on the Ogallala Aquifer for water. Since nobody owns the aquifer, pricing its use is tough. On this case, we might get the usual tragedy of the commons final result: every individual considers solely his or her personal prices when utilizing water reasonably than the total social price. In consequence, the aquifer could also be depleted too rapidly. For my reply, nevertheless, I’m going to disregard this risk.
One more reason I take advantage of this query within the classroom is to indicate that if customers actually valued the extra high quality required by the mandate, corporations would have already got an incentive to supply it as a result of doing so can be worthwhile. The query additionally provides an opportunity to debate the incidence of the mandate. In impact, the regulation operates like a tax—however as an alternative of producing income for the federal government, it generates income for the suppliers of low-flow bogs on this case, or extra typically, for whoever offers the extra high quality. Like a tax, the mandate creates a deadweight loss.
Since customers worth the water financial savings from low-flow bogs at $25 per bathroom, we are able to consider the demand for low-flow bogs as being $25 greater than the demand for regular bogs. By the identical logic, we are able to consider the mandate as decreasing provide by $100. The extra price plumbers incur when putting in low-flow bogs. Since provide falls greater than demand rises, fewer bogs shall be put in, and the market worth will improve by some quantity between $25 and $100. Each plumbers and their prospects are worse off: plumbers obtain much less web income after protecting their greater prices, and prospects pay greater than the worth they place on the advance. The result’s a deadweight loss, reflecting the discount in mutually useful trades that may have occurred with out the mandate.
We will illustrate this concept utilizing the provide and demand diagram under.
Picture by Bryan P. Cutsinger
The preliminary provide and demand curves, proven in black, mirror market circumstances earlier than the mandate takes impact. The mandate shifts the availability curve leftward by the extra price of offering a low-flow bathroom, illustrated by the crimson provide curve, S′. The crimson demand curve, D′, displays customers’ demand for low-flow bogs. The vertical distance between D′ and the preliminary demand curve, D, represents the extra worth customers place on the water financial savings from low-flow bogs.
We’re informed that the preliminary worth of a rest room is $250, so the mandate should elevate the equilibrium worth. How a lot it rises depends upon the elasticities of provide and demand, however we all know the brand new worth will lie someplace between $275 (if demand have been completely elastic) and $350 (if provide have been completely elastic).
