1.4 Flashcards
Define maximum price
A price set below the market equilibrium price by the government
Define minimum price
A price set above the market price by the government
What is the difference between a minimum and maximum price ?
Maximum price is set below the equilibrium and is to encourage people whereas minimum price is set above equilibrium and is used to deter people
What is the maximum price diagram the same as ?
Excess demand
What is the minimum price diagram the same as ?
Excess supply
What happens to consumer surplus if a minimum price is introduced to a market ?
Consumer surplus decreases
What happens to consumer surplus if a maximum price is introduced to a market ?
Consumer surplus increases
What happens to producer surplus if a minimum price is introduced to a market ?
Increases
What happens to producer surplus if a maximum price is introduced to a market?
Decreases
What is a guaranteed minimum pricing scheme ?
A scheme in which excess supply from a minimum price is purchased by the government at the minimum price
What is the purpose of a guaranteed minimum pricing scheme ?
The purpose is to protect producer incomes
What is a pollution cap ?
A limit set on the total amount of pollution firms are allowed to emit over a specific time period
What is the a benefit of pollution caps ?
It pushes producers to invest in renewable energy
What is a Tradable pollution permit ?
TPPs are permits that allow firms to pollute up to a specific limit set, they are tradable.
What happens if firms pollute below the levels set ?
The permits can be sold
What happens if firms pollute above the limit set ?
They will face fines unless they purchase more pollution permits
Why will firms that are heavy polluters suffer as a result of a cap and trade scheme ?
Increased production costs as they have to buy TPPs
Why will firms that act to reduce emissions be rewarded through emissions trading ?
They can sell their TPPs for profit
What are some advantages of Emissions Trade Schemes ?
- A market is created for buying and selling pollution permits - the price mechanism is used to internalise the external costs of carbon emissions
- Incentive given to invest in pollution reducing technology
- Unused permits can be sold or banked - further incentive to reduce carbon emissions
How can a minimum price help to reduce the consumption of a demerit good ?
Set higher than equilibrium – discourage to spend – costly – lead to a fall in demand of demerit goods.
How can a minimum price protect producers incomes in agricultural markets ?
Set higher than equilibrium because ensures an income for producers rather than their income being dependent on market price which is volatile – ensures livelihood hence stay in agricultural market.
How can a maximum price help poor consumers afford essentials such as heating and electricity ?
Set lower than equilibrium - to ensure they can afford basic essentials such as rent and heating and electricity
How can a minimum price help to ensure food stability ?
Set higher than equilibrium because it ensures income for producers rather than it be dependent on market price which is volatile hence producers remain in market – this helps food stability for supply and price in the UK.
Define regulation
- A rule or law enacted by the government that must be followed by economic agents.
- It is used to encourage a change in behaviour.
What can regulation do ?
Can be used to tackle problems caused by external costs and external benefits
What doesnt regulation suffer from ?
Doesnt suffer from potential problems of using taxation and subsidies
What are some market based approaches to tackling market failure ?
- Indirect taxes
- Subsidies
- Maximum prices
- Minimum prices
- Cap and trade schemes
What are some non market based approaches to tackling market failure ?
- State provision of public and merit goods
- Regulation
Give some command regulations
- Bans e.g. public smoking
- Limits e.g. age limit on buying alcohol
- Caps e.g. carbon emissions caps or fishing caps
- Compulsory actions e.g. graphic health warnings on cigarette packets
Give some control regulations
- Enforcement
- Punishments
- Fines and jail sentences
What are the disadvantages of maximum prices ?
- Excess demand so a shortage is created
- Black market may emerge
- Cost of enforcement
- Difficult to set price at the right level
- Rental market - producer surplus falls
What does a shortage lead to ?
Excess demand which means that only those who are able to get the good or service are able to access it which leads to goods being served on a first come first serve basis
What does the cost of enforcement lead to ?
- An opportunity cost where that money could have been used elsewhere
What can be resulted from setting the price at an incorrect level ?
There may be an information gap which leads to the price being too high or too low
What can a fall in producer surplus in the rental market lead to ?
- Landlords have less money to invest and maintain their property
- Long term decline in the quality of housing stock
What are the disadvantages of minimum prices ?
- Excess supply created
- Higher prices for consumers
- Lower consumer surplus
What can excess supply lead to ?
- Some producers are unable to sell goods
- Therefore there are more potential for losses
What does excess supply represent ?
A waste of resources that could have been used more productively elsewhere
What are the disadvantages of Emissions Trading Schemes ?
- If there is an information gap → too many permits could be issued, there would be little to no incentive for firms to reduce pollution
- If there is an information gap → too few permits could be issued → reduced international competitiveness → decline in X-M, employment, and growth
- Producers may try to pass the added costs on to consumers. Price inelastic goods and services are likely to become more expensive e.g. electricity, steel, glass.
- Price may be volatile which creates uncertainty for businesses
- If permits are given away for free, it’s a missed opportunity to raise government revenue
- Costs of operating and monitoring the scheme.
- Competitor firms in other regions, such as China and the US, are not currently subject to emissions trading schemes which improves their relative competitiveness
Define government failure
When government intervention designed to correct a market failure results in a less efficient allocation of resources
How can government failure arise ?
- Unintended consequences
- Distortion of price signals
- Excessive administrative costs
- Information gaps
How do unintended costs result in government failure ?
- They result in a worse outcome than before government intervention was implemented
How does distortion of price signals result in government failure ?
- Maximum prices and minimum prices can result in shortages and gluts respectively
- Subsidies may result in lower prices and greater consumption of goods with external costs
How can government intervention distort price signals ?
- Price controls such as minimum and maximum pricing lead to prices deviating from the market equilibrium. For example, a minimum price causes producers to increase production despite demand simultaneously falling
- Indirect taxes and subsidies also lead to prices deviating from the market equilibrium
How do excessive administrative costs cause government failure ?
- The admin costs of government intervention may outweigh any benefits that result from it
- e.g. drug prohibition
How do information gaps cause government failure ?
A lack of sufficient information can lead to government intervention being set in an ineffective manner.
How does regulation aim to correct market failure ?
- It provides an incentive to change behaviour toward the socially optimal level of output
What are the disadvantages of regulation ?
- Cost
- Setting the right level of regulation can be difficult
- It may encourage black market activity
- Unintended consequences may arise
How is regulation costly ?
- Administration - creating and setting it up
- Enforcement - Making sure that individuals and firms adhere to the regulations
How can setting the right level of regulation be difficult ?
It could be too tight or too relaxed
What unintended consequences may arise from regulation ?
Firms may decide to move to countries with less tight regulations
What is a guaranteed minimum pricing scheme ?
Where the surplus output created is purchased by a government agency at the minimum price. The main aim of such a scheme is to protect producer incomes.
Give an example of a guaranteed minimum pricing scheme
In agriculture the government buys the farmers excess supply and it allows for their income to be protected
What are the advantages of minimum pricing schemes ?
- Producer incomes are stable
- Greater investment and employment
- Greater security for food supply
- Surplus can be stockpiled or used as aid
What are the disadvantages of minimum pricing schemes ?
- Surpluses may be sold overseas at lower prices. This could be damaging to farmers in developing countries that are likely to struggle and compete
- Opportunity cost of government finances. Government may have to raise taxes or cut government spending in other areas
- Difficult to set price at the right level. There may be an information gap
- Storage and security costs for the stockpiles
How will farmers benefit from a minimum pricing scheme?
If they can produce a reasonable harvest, they are guaranteed a minimum level of income regardless of the level of demand in the market. This helps to increase job security and investment in the sector. In turn, this can help farmers to increase the size of their harvests in the future.
What are the costs of running a minimum pricing scheme for a government?
- The government revenue used to purchase the excess supply.
- The costs of storing and transporting the excess supply.
