1.4.1: Government Intervention In Markets

Question 1

What are the three methods (graphical) that the government uses to intervene in markets?

Answer 1

•Taxes.
•Subsidies.
•Maximum and minimum price.

Question 2

How does the government intervene with markets with tax?

Answer 2

When a good has negative externalities, tax is used to shift the supply curve to the left, and make the good more expensive. This reduces demand.

Question 3

How does the government intervene with markets with subsidies?

Answer 3

Subsidies encourage the production of under-consumed goods in a free market. It shifts supply to the right, reducing the price.

Question 4

How does the government intervene with markets with maximum and minimum price?

Answer 4

Maximum price is set on goods with positive externalities.
Minimum price is set on goods with negative externalities.

Question 5

What are the two types of indirect tax the government uses to intervene with markets?

Answer 5

-Specific tax.
-Ad valorem tax.

Question 6

What does this graph represent?
-S2 line.
-MSC line.

Answer 6

-Specific tax.
-Ad valorem tax.

Question 7

What does this graph represent?

Answer 7

Subsidies.

Question 8

What does this graph represent?

Answer 8

Maximum price.

Question 9

What does this graph represent?

Answer 9

Minimum price.

Question 10

What are advantages of taxes?

Answer 10

-Raises government revenue.
-Alters consumer behaviour in the long term.
-Internalises the externality.

Question 11

What are advantages of subsidies?

Answer 11

-Welfare is maximised.
-Encourages production of merit goods.

Question 12

What are advantages of maximum and minimum price?

Answer 12

-Increases social welfare.
-Max prices ensure that goods are affordable.
-Min prices ensure that profit is made.

Question 13

What are disadvantages of taxes?

Answer 13

-Has little to no effect on the consumption of inelastic goods.
-Leads to the creation of black markets.
-Regressive: the poor spend a higher proportion of income on taxes than the rich.

Question 14

What are disadvantages of subsidies?

Answer 14

-Subsidies are ineffective with inelastic goods.
-Opportunity cost on government spending.
-Firms that receives subsidies are more likely to be inefficient.

Question 15

What are disadvantages of maximum and minimum price?

Answer 15

-Leads to the creation of black markets.
-Difficult for governments to know where to set prices.

Question 16

What are four methods (non-graphical) of government intervention?

Answer 16

•Tradable pollution permits.
•State provision of public goods.
•Provision of market information.
•Regulation.

Question 17

What is a tradable pollution permit?

Answer 17

A permit that allows the owners to pollute up to a specific amount. The amount of permits are controlled by the government to set a limit on the maximum amount of pollution.

Question 18

What is state provision of public goods?

Answer 18

The government providing public goods through taxation.

Question 19

What is provision of information?

Answer 19

The government trying to cut information gaps on goods so that consumers make informed decisions.

Question 20

What is regulation?

Answer 20

Law imposition that ensures that levels are kept at MSB = MSC.

Question 21

What are advantages of tradable pollution permits?

Answer 21

-Reduces pollution, maximising social welfare.
-Encourages companies to invest in green technology.

Question 22

What are advantages of state provision of public goods?

Answer 22

-Encourages equality, so that everyone has access to basic goods.
-Corrects market failure.

Question 23

What are advantages of provision of information?

Answer 23

-Helps consumers act rationally.

Question 24

What are advantages of regulation?

Answer 24

-Ensures consideration of externalities.
-Maximises social welfare.

Question 25

What are disadvantages of tradable pollution permits?

Answer 25

-Raises costs for businesses, which raises costs for consumers.
-Expensive to monitor.

Question 26

What are disadvantages of state provision of public goods?

Answer 26

-Expensive and represents a high opportunity cost.
-The government provides goods/services without acting on information from market forces (e.g. too few hospital beds).

Question 27

What are disadvantages of provision of information?

Answer 27

-Expensive and represents a high opportunity cost.
-Consumers may act irrationally.

Question 28

What are disadvantages of regulation?

Answer 28

-Expensive and represents a high opportunity cost
-Firms may pass costs onto consumers through higher prices.