Which of the following statements is correct about price controls?

• A. Price ceilings always improve allocative efficiency.
• B. A price ceiling above the equilibrium price creates a shortage.
• C. A price ceiling below the equilibrium price creates no effect.
• D. A price ceiling below the equilibrium price creates a shortage and a price floor above the equilibrium price creates a surplus.

Answer: (D)

Price controls can bind or be non-binding depending on where they are set relative to the market-clearing price. A price ceiling is a maximum price. When it is set below the equilibrium price, it binds the market, because the legal maximum is lower than what buyers are willing to pay and what sellers want to receive. This causes a shortage: more people want the good at the capped price than there is supply at that price.

A price floor is a minimum price. When it is set above the equilibrium price, it binds the market too, and it creates a surplus: producers are willing to supply more at the higher price, but fewer buyers are willing to buy at that price.

So the statement that captures both effects—binding price ceiling below the equilibrium price creates a shortage, and binding price floor above the equilibrium price creates a surplus—is correct.

The other statements are not accurate. A price ceiling does not always improve allocative efficiency; binding ceilings can cause shortages and deadweight losses. A ceiling above the equilibrium is non-binding and does not create a shortage. A ceiling below the equilibrium does create an effect (a shortage), not "no effect."