1.4 Government Intervention LS20-23

Question 1

Maximum price definition?

Answer 1

A price set below the market equilibrium price by the government

Question 2

Minimum price definition?

Answer 2

A price set above the market equilibrium price by the government

Question 3

What is a guaranteed minimum pricing scheme?

Answer 3

A scheme in which excess supply from a minimum price is purchased by the government at the minimum price

To protect producers’ incomes (i.e. farmers)

Question 4

What are the advantages of minimum pricing schemes?

Answer 4

• Producers’ incomes are stabilised = higher investment and employment
• Greater security of food supply
• Surplus can be stockpiled/used as an aid

Question 5

What are the disadvantages of minimum pricing schemes?

Answer 5

• Surpluses may be sold overseas at low prices = increased competition for farmers = damaging for farmers in developing countries
• Opportunity cost of government finances: may have to raise taxes or cut gov spending in other areas
• Difficult to set price at right level: may be an information gap
• Storage and security costs for government

Question 6

What is a pollution permit?

Answer 6

Allocated by the government to allow firms to pollute up to the limit set

Question 7

How do tradeable pollution permits work?

Answer 7

• Gives firms the right to pollute up to a limit
• • If firms pollute below the limit set, permits are not used so can be sold
• If firm breaks the pollution limit, they will face fines unless they purchase pollution permits

Question 8

What is the advantage of maximum prices?

Answer 8

Prices are lowered for consumers

Question 9

What is the disadvantage of maximum prices?

Answer 9

• Shortages created (reduced incentive for suppliers, excess demand)
• Black markets may emerge
• Difficult to set the price at the right level (could be an information gap)
• Fall in producer surplus could = long-term decline in quality of goods/services

Question 10

What are the advantages of minimum prices?

Answer 10

• For agricultural markets, food stability is increased
• Can reduce consumption of demerit goods
• Producer incomes are protected

Question 11

What are the disadvantages of minimum prices?

Answer 11

• Excess supply created = some producers unable to sell goods = potential for losses
  => also = waste of resources that could have been used productively elsewhere
• Higher prices for consumers = lower consumer surplus

Question 12

What are the advantages of an Emissions Trade Scheme (TPPs)?

Answer 12

• Market created for buying/selling pollution permits = internalising the external costs of carbon emissions
• Incentive given to invest in pollution reducing technology
• Cleaner firms rewarded and less environmentally firms punished
• Unused permits can be sold/banked = further incentive to reduce carbon emissions
• Government revenue could be raised by selling permits instead of giving them away for free

Question 13

What are the disadvantages of an Emissions Trade Scheme (TPPs)?

Answer 13

• If there’s an information gap could = too many permits issued = little/no incentive for firms to reduce pollution
  => OR could = too few permits issued = reduced international competitiveness = decline in net exports = decline in economic growth
• Producers could pass the added cost to consumers (price inelastic goods/services likely to become more expensive)
• May be volatile prices = uncertainty for businesses
• If permits given away for free = missed opportunity to raise gov revenue
• Costs of operating and monitoring the scheme

Question 14

Regulation definition?

Answer 14

A rule or law enacted by the government that must be followed by economic agents

Used to encourage a change in behaviour

Question 15

How does regulation aim to correct market failure?

Answer 15

• Provides an incentive to change behaviour toward the socially optimum level of output
• If correctly implemented, leads to the removal of a welfare loss (or gain for +ve externalities)

Question 16

What are the disadvantages of regulation?

Answer 16

• Cost: costly in administration and enforcement
• Setting the right level of regulation can be difficult
• May encourage black market activity
• Unintended consequences may arise

Question 17

Command aspect of regulation?

Answer 17

• Bans (e.g. public smoking ban)
• Limits (e.g. age limits on buying alcohol etc.)
• Caps (e.g. carbon emissions)
• Compulsory action (e.g. graphic health warnings on cigarette packets)

Question 18

Control aspect of regulation?

Answer 18

• Enforce
• Punishment

Question 19

Government failure definition?

Answer 19

When government intervention designed to correct a market failure results in a less efficient allocation of resources

Question 20

What are the causes of government failure

Answer 20

• Unintended consequences
• Distortion of price signals: max and min prices can result in shortages and gluts (oversupply), subsidies can result in overconsumption of a good with external costs (subsidies for sugar farmers)
• Excessive adminstrative costs: admin costs may outweigh any benefits
• Information gaps: lack of sufficient information can lead to gov intervention being set in an ineffective manner