In New York City, you are allowed to operate a taxi cab only if you carry a special taxi “medallion “made by the Taxi Commission of New York. Suppose 50,000 of these have been sold, and no further ones will be put into circulation by the Taxi Commission. We will see that restricting supply in this way is another way in which governments can inefficiently distort price.
A. Suppose for simplicity that there are no income effects of significance in this problem. We will analyze the demand and supply of a day’s worth of cab rides—which we will call “daily taxi rides”.
(a) On a graph with daily taxi rides on the horizontal axis and dollars on the vertical, illustrate the daily aggregate demand curve for NYC taxi rides. Given the fixed supply of medallions, illustrate the supply curve under the medallion system.
(b) Illustrate the daily revenue a cab driver will make. (Since we are denoting quantity in terms of “daily cab rides”, the price of one unit of the output is equal to the daily revenue.)
(c) In the absence of the medallion system, taxi cabs would be free to enter and exit the cab business. Assuming that everyone faces the same cost to operating a cab, what would the long run supply curve of cabs look like? Illustrate this on your graph under the assumption that removal of the medallion system would result in an increase in the number of cab rides. Indicate the long run daily price of a cab and the number of cabs operating in the absence of the medallion system.
(d) Suppose you own medallion and you can rent it out to someone else. Indicate in your graph the equilibrium daily rental fee you could charge for your medallion. How much profit are those who rent medallion in order to operate a cab making? Is that different from how much profit those who own a medallion and use it to operate a cab are making?
(e) True or False: The only individuals who would be made worse off if medallions were no longer required to operate a cab are the owners of medallions.
(f) Illustrate in your graph the daily deadweight loss from the medallion system. Can you think of a policy proposal that would make everyone better off?
B: Let x denote a day’s worth of cab rides and suppose the demand curve for x was given by p = 2500−(x/100).
(a) Given the fixed supply of 50,000 medallions, what is the price of a day’s worth of cab rides?
(b) Suppose that the daily cost of operating a cap is $1,500 (in the absence of having to pay for a medallion). What is the equilibrium daily rental fee for a medallion?
(c) Suppose that everyone expects the rental value of a medallion to remain the same into the future. How much could you sell a medallion for—assuming a daily interest rate of 0.01%?
(d) How many more cabs would there be on NYC streets if the medallion system were eliminated (and free entry and exit into the cab business is permitted)?
(e) What is the daily deadweight loss of the medallion system?
(f) What do you think is the biggest political obstacle to eliminating the system?