1.4. Government intervention in markets Flashcards
what is indirect tax?
a tax levied on goods and services rather than on income or profits.
- VAT
- fuel duties
- tobacco duties/wine spirits etc
➡️ collected by the customs and excise
how do you draw a diagram to identify tax?
y axis: price
x axis: quantity
supply and demand curves
triangle created is the tax per unit
top section of diagram is consumer
bottoms section of diagram is producer
what is government intervention?
when the state gets involved in markets and takes action to try to correct market
failure, improve economic efficiency, impact upon the macroeconomic performance of the economy, and/or
change the distribution of income and wealth
how does the govt. intervene?
changing
- tax
- subsidies
- max prices
- min prices
➡️change the level of demand
how do you draw a diagram to show indirect tax (ad valoureum)
y axis: price
x axis: quantity
demand and supply curve
another supply curve above the go labeled supply+tax
indirect tax is the triangle created (to consumer on top and producer on bottom)
positives of indirect tax?
- can target particular industries (make polluter pay)
- tax can be used as an incentive to reduce externality eg shift production from a more harmful product to less harmful
- tax raised by the govt, can be used to combat negative externalities created
- the level of pollution/size of the externality should fall as outputs reduced and price increased
negatives of indirect tax?
- tax revenue raised may not be used to compensate victims or clean up environment
- difficult for govt to fix a monetary value on an externality so hard to decide on tax level
- not all externalities can be split eg global warming can’t be attributed to a specific area
- might encourage the development of illegal markets
- demand for goods and services may be price inelastic and so the overall reduction in pollution levels may be small
whats a subsidy?
a government incentive of funds to reduce firms production costs
how to draw a subsidy diagram?
supply and demand diagram
add another supply curve labeled s+subsidy (below supply curve)
subsidy cost shown by the triangle
producer top
consumer bottom
benefits of subsidies?
- reduces price and increases quantity
- leads to an increase in production/consumption of merit goods
- encourages firms to take part in activities that are beneficial
- encourage firms to develop more products with positive externalities
drawbacks of subsidies?
- the money to pay for the subsidy will have to be met through taxation
- all subsidies have an opportunity cost
- its difficult to estimate the extent of the positive externality so hard to work out how much to give
- govt have poor information about the product so don’t know how much to subsidise
- danger that the govt subsidies encourage firms to be inefficient, relying on subsidies
but this depends on the size of the subsidy, how long the subsidy is given for and elasticity in the market
what is a maximum price level?
a legally-imposed maximum price (or price ceiling) in a market that suppliers cannot exceed - in an attempt to prevent the price from rising above a certain level
- to be effective a maximum price has to be set below the existing free market equilibrium price
maximum price diagram?
supply and demand curve
equilibrium line
below equilibrium new horizontal line drawn which has the quantity line from where it meets the demand curve
pros of maximum price?
- lower prices for consumers
- helps increase fairness, more people can purchase goods and services
- prevents monopolies exploiting customers and suppliers with higher prices
- usually reserved for important goods such as food and renting
cons of maximum price?
- leads to a shortage
- since demand is higher than supply some people can’t get ht good
- can lead to black markets emerging
- govt. may need to introduce a rationing scheme to allocate the good
