1.4 Government Intervention

Question 1

What is minimum pricing?

Answer 1

A form of government intervention where a legal minimum price for a good/service is set which sellers cannot exceed below

Question 2

What are 4 reasons for minimum pricing?

Answer 2

• Tackling negative externalities
• Reduce poverty and inequality
• Stabilise income/volatile prices
• Tackling information gaps

Question 3

Where is minimum price set on a supply/demand diagram?

Answer 3

Above the free market equilibrium (otherwise would be ineffective)

Question 4

What are 5 issues with minimum pricing?

Answer 4

• Black markets/smuggling
• Regressive
• Depends on PED
• Government must ‘buy’ excess supply: to prevent unsold supply being sold for lower price
• Not allocatively efficient outcome

Question 5

What is maximum pricing?

Answer 5

A form of government intervention where a legal maximum price for a good/service is set to prevent market price from rising above a certain level

Question 6

What are 3 reasons for a maximum price?

Answer 6

• Encourage consumption of merit goods
• Protect consumers
• Reduce inequality

Question 7

What are 2 examples of a maximum price?

Answer 7

• Rent controls
• Energy price cap

Question 8

Where is maximum price set on the supply/demand diagram?

Answer 8

Below the free market equilibrium (otherwise would be ineffective)

Question 9

What are 3 issues with maximum pricing?

Answer 9

• Imbalance of markets: excess supply
• Black markets
• Depends on PED

Question 10

What is indirect tax?

Answer 10

A tax imposed by the government which increases the supply costs of producers

Question 11

What are 3 reasons for indirect taxation?

Answer 11

• Generate revenue
• Prevent overconsumption of demerit goods
• Redistribute wealth

Question 12

What are the 3 types of tax?

Answer 12

• Proportional: all have to pay the same rate of tax
• Progressive: those on higher incomes pay a higher rate of tax
• Regressive: those on lower incomes pay a higher rate of tax

Question 13

What is a specific tax?

Answer 13

A tax per unit purchased e.g sugar tax, tobacco duties

Question 14

Describe the specific tax diagram

Answer 14

• Leads to a production cost for firms, so supply shifts inwards
• Higher price leads to demand contracting

Question 15

What is ad valorem tax?

Answer 15

A tax which depends on the value of the asset or price of the good e.g VAT, stamp duty

Question 16

Why does the supply curve on the ad valorem tax diagram diverge?

Answer 16

The higher the price the greater proportion of tax paid, meaning that the supply curve is more elastic than the demand curve

Question 17

What are subsidies?

Answer 17

A form of financial assistance (e.g tax breaks, cash payments) given by the government to individuals or groups

Question 18

What is the purpose of subsidies?

Answer 18

It reduces the costs of producers, allowing them to increase supply within the market therefore reducing equilibrium price

Question 19

What are 3 benefits of a subsidy?

Answer 19

• Increase the output of merit goods
• Protects jobs in a recession
• Promotes growth

Question 20

What is the incidence of a subsidy?

Answer 20

Shows how the benefit of a subsidy is distributed between consumers and producers

Question 21

What are 3 drawbacks of a subsidy?

Answer 21

• Subsidy dependency: firms rely on government support, discouraging private investment/innovation
• Opportunity cost
• Increased consumption depends on PED

Question 22

How does PED affect subsidies?

Answer 22

• Elastic: consumers sensitive to price, reduction from subsidies will encourage consumption
• Inelastic: consumers resistant to price changes, reduction from subsidies will not significantly impact consumption

Question 23

What is government failure?

Answer 23

When intervention into a specific market fails to achieve its intended goals and/or creates negative consequences

Question 24

What are 4 causes of government failure?

Answer 24

• Unintended consequences: policies may have unforeseen consequences e.g new costs/impacts
• Administrative costs: may outweigh the welfare benefit
• Political self interest: public choice theory=politicians act in way that maximises their own utility rather than the economy e.g during elections
• Conflicting objectives: e.g cutting taxes but increased spending on defence

Question 25

How is there government failure when rent controls are implemented?

Answer 25

• Less houses supplied to the market by landlords
• Black markets may develop: landlords only do cash only deals
• Unintended consequences: less houses means less workers required

Question 26

What is a direct tax and 2 examples?

Answer 26

A tax paid directly to the government by the taxpayer e.g income tax, national insurance contributions (NIC)