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Demand and Supply Analysis of Hackney

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Hackney is a well-defined geographic area of a city. The area is composed exclusively of apartments and is populated by low-income residents. The people who live in the area tend to stay in that area because:

They cannot afford to live in other areas of the city,

They prefer to live with people of their own ethnic group, or

There is discrimination against them in other areas of the city.

Rents paid in Hackney are a very high percent of peoples' incomes.

Questions:

Would the demand for apartments in Hackney be relatively inelastic or relatively elastic? State why. (3)

There are five main factors that affect the demand for apartments: price of housing, income, price of substitutes , price of complements (i.e., mortgages) and tastes / utility.

In a short-run the demand would be relatively inelastic for the following reasons:

Firstly depends on the degree of necessity of the purchase or rent of housing, and there are not many alternatives for close substitution; new apartments cannot be built in a short time.

Furthermore taste also affect the demand, individuals that are renting in this particular area prefer to live with people of their own ethic group as they are discriminated in other areas of the city.

All these factors make the demand for rents increase.

The demand would be relatively elastic in a long run, because customers would be more sensitive to a change in price as their income is low.

Would the supply of apartments in Hackney be relatively inelastic or relatively elastic? State why. (3)

The factors affecting supply are the same as those affecting the demand, but in opposite directions. The supply of housing is determined by these factors: the profit in building houses compared to other activities, other uses of the land, and how easy it is to build houses.

In a short run the supply of available housing to rent in Hackney is relatively inelastic, because a rise in demand leads to sharply higher prices, however people will still go for it because there is a close relationship between a change in price and an increase in supply of new properties becoming available in the market in a short period of time. So the less the supply, the higher up the demand curve will the equilibrium price be.

Supply can become more elastic over time, if the demand remains high, more properties will tend to come onto the market, and this helps to put downward pressure on the price.

Draw the demand and supply curves as you have described them, showing the initial equilibrium price and quantity. Label carefully. (3)

Now assume the government creates a rent supplement program. Under this program, the renter is required to pay 30% of income in rent. Any additional rent is paid by the government --- up to a limit. For example, a low-income person with an income of £1,000 a month would be required to pay £300 in rent (30%). If the rent is £500, the other £200 would be paid by the government. Analyze the results of this program. (5) Show the changes on the graph and explain what will result. (2) Who gains and who loses from this program? (1)

The government might adopt this measure to improve the general welfare.

Rent limits act as a means of controlling the level of expenditure on rent supplements. In practice, tenants (and landlords) have little incentive to agree rents below the rent limit levels.

Selective lowering of rent limits when market rents fell could have resulted in lower expenditure.

In order to maximise the value of its spending and avoid the risk of windfall gains to landlords, the Department needs to be in a position to promptly adjust the rent limits for new tenancies (nationally or on a selective basis), and to exploit its effective purchasing power in response to market conditions.

There is a need to make this work more effective by developing methods to identify the extent of fraudulent or unwarranted recourse to rent supplements.

Rent control reduces the incentive of landlords to supply rental units. Rental units tend to be in scarce supply under rent control. Ironically this leads to an escalation of complaints against the landlord class. Vacancy levels tend to be relatively low and a available units tend to be rented only under strict conditions, again aggravating relations between landlords and tenants. There is also an incentive for landlords to discriminate against tenants likely to stay for a long time, like retirees or couples with children. Rent control tends to lead to bullying and illegal behaviour by landlords. If rent increases are allowed between vacancies, landlords will try to evict tenants in any way possible.

Tenants in tenancy rent controlled units are less willing to move to other places, despite the possibility of earning higher wages.

the removal of rent control can not only increase efficiency in the rental market, but can also lead to a general lowering of rents, making all tenants better off."

Rent control is a price ceiling imposed by the government, and is in place in many areas across the world. The practice is controversial, as some people believe it is necessary in order to prevent tenants from paying unfair rents and in order to allow as many individuals as possible access to good housing, while others feel that it could create a housing shortage due to increased demand, that a rent control situation will decrease the quality of available housing, or that it is simply unfair to the property owners.

But if rents are established at less than their equilibrium levels, the quantity demanded will necessarily exceed the amount supplied, and rent control will lead to a shortage of dwelling spaces.

Instead, now assume that the government decides to provide a building subsidy to people who build apartments in this low-income area. A certain percent of their costs will be paid by the government. Analyze the results of this program (4) Show the results on the graph and explain what will result. (2) Who gains and who loses from this program? (1)

A rent ceiling would cause a reduction in the supply of apartments because the price would be too low for some suppliers to sell, so they would simply not sell. They would benefit more from not selling, and this creates a shortage of apartments for people who want them. With the price being a standard for all apartments there would be an increase in demand. The shortage is the disequilibrium in this market. If the demand for apartments is inelastic, the price effect (a price increase makes each unit sell at a higher price which raises revenue) is stronger than the quantity effect (a price increase means fewer apartments are sold which decreases revenue). Without the price ceiling suppliers can sell apartments at higher prices, meaning the price is inelastic, and allows the market to reach equilibrium. The inelastic price means that with the rise in price the total revenue will rise (or opposite if the price decreases the total revenue falls). The market will reach equilibrium because those who are willing to pay for the apartments of nicer quality will get them, and the amount of apartments supplied will equal the amount demanded. There will be no deadweight loss when the market reaches equilibrium because consumer and producer surplus are at their highest potential without harming the other. The removal of the rent ceiling will benefit the market, and increase total revenue and surplus within it.

The price ceiling would cause a shortage of apartments in Marietta. The price ceiling would be below the equilibrium price, so if the price ceiling is removed then the price of an apartment will increase and so will the quantity supplied. Both would increase til reaching equilibrium in the market. Because of the price increase the total revenue would increase meaning that the price elasticity of demand is inelastic, and the price effect is stronger than the quantity effect.

Total Available = 24 Points

A = 23-24 B = 17-18 C = 11-12 D- = 6-7

A- = 21-22 B- = 15-16 C- = 10 F = 0-5

B+ = 19-20 C+ = 13-14 D = 8-9


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