Intermediate Microeconomics and Its Application 12th Edition by Walter Nicholson,Christopher Snyder

Exercise 6

Suppose that the competitive equilibrium shown in Figure were regarded as ''unfair'' because the relative price of X (an important necessity) is ''too high.'' What would be the result of passing a law requiring that PX/PY be lower?
With an arbitrary initial price ratio, firms will produce X1, Y1; the economy's budget constraint will be given by line CC. With this budget constraint, individuals demand X01 , Y1, that is, there is an excess demand for good X (X01_ X1) and an excess supply of good Y (Y1 _ Y01 ). The workings of the market will move these prices toward their equilibrium levels P_X ,P_Y. At those prices, society's budget constraint will be given by the line C*C*, and supply and demand will be in equilibrium. The combination X*, Y* of goods will be chosen, and this allocation is efficient.