1.4 - Government Intervention

Question 1

Advantages of using indirect taxation to solve a negative externality

Answer 1

1. Internalises the externality, so market now produces at social equilibrium position and social welfare is maximised
2. Raises government revenue, which could be used to solve the externality other ways such as through education

Question 2

Disadvantages of using indirect taxation to solve a negative externality

Answer 2

1. Difficult to know the size of the externality, so it is difficult to target the tax
2. Could be conflict between the government goal of raising revenue and solving the externality
3. Could create black markets

Question 3

Advantages of using subsidies to solve a positive externality

Answer 3

1. Society reaches the social optimum output and welfare is maximised
2. Can encourage enterprise, bringing about equality and encouraging exports

Question 4

Disadvantages of using subsidies to solve a positive externality

Answer 4

1. Government will have to spend a large amount of money, creating a high opportunity cost
2. Difficult to target as size of externality is unknown
3. Can cause producers to become inefficient

Question 5

Minimum price

Answer 5

A government-imposed lower limit on the price of a good or service. It is set above the equilibrium price to ensure producers receive a fair income or to discourage the consumption of harmful goods, set on goods with negative externalities

Question 6

Maximum price

Answer 6

A government-imposed upper limit on the price of a good or service. It is set below the equilibrium price to make essential goods or services more affordable for consumers, set on goods with positive externalities

Question 7

Advantages of using minimum and maximum prices

Answer 7

1. Can be set where Marginal Social Benefit=Marginal Social Cost, allowing for some consideration of externalities to help increase social welfare
2. A maximum price will ensure that goods are affordable, whilst a minimum price will ensure producers get a fair price, both of these are able to reduce poverty and increase equality

Question 8

Disadvantages of using minimum and maximum prices

Answer 8

1. Distortion of the price signals can cause excess demand or supply
2. Difficult for the government to know where to set the prices
3. Both can lead to creation of black markets

Question 9

Buffer stock scheme

Answer 9

A government or industry intervention that aims to stabilize the price of a commodity (e.g., wheat, rice, or oil) by buying surplus stock when prices are low and selling stock when prices are high. This helps to reduce price fluctuations and protect both producers and consumers

Question 10

Tradeable pollution permits

Answer 10

A market-based approach to reducing pollution by giving firms permits (allowances) to emit a certain amount of pollution. Firms that reduce emissions can sell their excess permits, while firms that exceed their limit must buy additional permits or face penalties

Question 11

Advantages of using tradeable pollution permits

Answer 11

1. Since government caps number of permits its guaranteed that pollution will be reduced, maximising social welfare
2. Government can raise revenue be selling permits and fining firms who exceed their pollution limit
3. Encourages companies to invest and use green technology

Question 12

Disadvantages of using tradeable pollution permits

Answer 12

1. Can be expensive to monitor and police
2. Will raise costs for businesses, which will likely be passed onto consumers through higher prices
3. May be difficult to know how many permits the government should allow

Question 13

Advantages of state provision of public goods

Answer 13

1. Corrects market failure by providing important goods, improving social welfare
2. Can help bring about equality, ensuring everyone has access to basic goods
3. Will be benefits of the good itself, such as by providing healthcare the government can ensure the workforce is healthy which can improve economic growth

Question 14

Disadvantages of state provision of public goods

Answer 14

1. Expensive and represents high opportunity cost
2. Since market is not involved, government may produce wrong combinations of goods
3. Government may be inefficient at production since have no incentive to cut costs
4. Government officials may suffer from corruption and conflicting objectives

Question 15

Advantages of provision of information

Answer 15

1. Helps consumers act rationally, allowing the market to work properly
2. Best used alongside other policies, such as can help make demand more elastic in the long run helping indirect taxes becoming more efficient at reducing output

Question 16

Disadvantages of provision of information

Answer 16

1. Can be expensive and create an opportunity cost
2. Governments may lack all the information, making it difficult to inform consumers
3. Consumers may not listen to the information due to irrational behaviour

Question 17

Advantages of using regulation

Answer 17

1. Can ensure consideration of externalities, preventing exploitation of consumers and keep consumers fully informed helping overcome market failure

Question 18

Disadvantages of using regulation

Answer 18

1. Laws may be expensive, creating an opportunity cost
2. Government can suffer from regulatory capture
3. Firms may pass on costs to the consumer through higher prices
4. Excessive regulation may reduce competition and efficiency by increasing bureaucracy and reducing innovation

Question 19

Government failure

Answer 19

When government intervention leads to a deeper market failure, resulting in a net welfare loss

Question 20

Examples of a government failure

Answer 20

1. Distortion of price signals
2. Unintended consequences
3. Excessive administrative costs
4. Information gaps