We have said that the market for apartment services fits the assumption of free entry. New apartment buildings can be built if it is profitable to do so. But there have been some periods when new building has been limited. This has been especially so in wartime, when investment has been channeled to war production. In these circumstances, increasing demand with limited supply could lead to increasing rents, and this has sometimes been seen as unfair -- as "war profiteering." Landlords have been prohibited from raising rents, or the increases have been limited, putting an upper limit on rents that could be charged. We will think of that as an upper limit on the price per unit of "apartment services."
Here's a diagram that portrays rent controls:
We see the demand shown by the dark green line. The long run supply curve is shown by the dark red and the short run supply by the light red line. The market equilibrium price would be $30. At the market equilibrium price, the quantity demanded would be 1000 units of apartment services, and the quantity supplied -- in both the short run and long run senses -- would be the same. But the price, the rent per unit of apartment services, is limited to $25 by law. At that price, the quantity demanded is 1250 units of apartment services. However, the short run supply is 850, so there is an excess demand of 1250-850=400 units of apartment services.
However, even this supply is unsustainable in the long run. We see that a price of 25 per unit of apartment services is below the long run supply curve for any quantity over 500 units of apartment services. "Below the long-run supply curve" means that returns on investments in apartment house construction and operation are below the opportunity cost of capital. That means new apartments won't be built -- other investments would pay better -- and even the existing apartments that wear out won't be replaced or maintained at their existing level of apartment services. The short run supply of apartment services will shift to the left.
Let's look at an animation that shows what will happen in the long run:
The Long Run Adjustment
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