1.4 - Government Intervention

Question 1

What government intervention is mainly used when a good has negative externalities or is a demerit good

Answer 1

Indirect taxation

Question 2

Advantages of indirect taxation (2)

Answer 2

1. Internalises the externality, market produces at social optimum equilibrium, social welfare maximised
2. Raises government revenue which can be used to solve externality in other ways

Question 3

Disadvantages of indirect taxation

Answer 3

1. Hard to work out the size of the externality so difficult to determine tax
2. Lead to creation of black market to avoid tax
3. Ineffective when demand is inelastic
4. They are regressive - increases inequality

Question 4

What is used to encourage production of goods with positive externalities and merit goods

Answer 4

Subsidies

Question 5

What is the main advantage of subsidies

Answer 5

Society can reach the social optimum output as it is cheaper for producers to supply the good, welfare is maximised

Question 6

Disadvantages of subsidies (3)

Answer 6

1. Expensive for the government and high opportunity cost
2. Difficult to target al size of externality is unknown
3. Cause producers to become inefficient

Question 7

Draw maximum and minimum price diagrams

Answer 7

For max price, price set below equilibrium
For min price, price set above equilibrium

Question 8

What is a maximum price and what does it do

Answer 8

A price supplies cannot charge above, set on goods with positive externalities, prevents consumers being exploited by monopolies

Question 9

What is a minimum price and what does it do?

Answer 9

The lowest a pice can be set, used on goods with negate externalities, discourages consumption and production

Question 10

Disadvantages of max/min prices (3)

Answer 10

1. Both lead to creation of black markets
2. Min prices can increase inequality for those with inelastic demand for demerit goods eg alcohol addiction
3. Difficult for the government to know where to set the prices - may lead to gov failure?

Question 11

How are pollution permits tradable and why is that a good thing?

Answer 11

Permits are tradable as unused permits can be sold to other companies
Companies likely to reduce polluting in order to out costs and increase profit
An increase in demand for these permits makes them more expensive so companies have more incentive to invest in green technology

Question 12

Advantages of pollution permits (3)

Answer 12

1. Maximise social welfare
2. Encourages green technology
3. Encourages efficiency by firms

Question 13

Disadvantages of pollution permits

Answer 13

1. expensive to monitor
2. Raised costs for ems are likely to be passed on to consumers
3. Difficult for the government to decide how many permits to give

Question 14

What can the government do to prevent public goods from being under provided

Answer 14

State provision of public goods

Question 15

Advantages of state provision of public goods

Answer 15

1. Corrects market failure, improves social welfare
2. Improves equality
3. Benefits of the goods themselves eg healthcare from the NHS

Question 16

Disadvantages of state provision of public goods (2)

Answer 16

1. Expensive and high opportunity cost
2. Government likely to be inefficient as no incentive to reduce costs

Question 17

What government intervention solves asymmetric information

Answer 17

Provision of information

Question 18

Advantage of provision of information

Answer 18

Helps consumers act rationally

Question 19

Disadvantages of provision of information (3)

Answer 19

1. Expensive for the government so high opportunity cost
2. Government may not always have all the information they need
3. Consumers may not listen so information ineffective

Question 20

What does regulation include (3)

Answer 20

1. Laws
2. Caps
3. Regulatory boards

Question 21

Advantage of regulation

Answer 21

Ensure price levels are set where MSB = MSC and present exploitation of consumers

Question 22

Disadvantages of regulation (4)

Answer 22

1. Expensive to monitor
2. Regulators capture
3. Firms pass on higher costs to consumers
4. Excessive regulation reduces competition, stops firms entering the market

Question 23

What are the 4 types of government failure

Answer 23

• Distortion of price signals
• unintended consequences
• excessive administration costs
• information gaps