2.3 Government Intervention Flashcards
Types of Government Intervention in Microeconomics
Taxes
Subsidies
Price Controls (Maximum and Minimum Price)
Direct Tax
A tax on income
Indirect Tax
A tax on goods and services
Specific Tax / unit tax
a fixed amount of tax imposed on a product
It shifts the supply curve parallel upwards by amount of tax
Percentage tax / ad valorem tax
Tax is a percentage of the selling price.
Its shift of the supply curve is not parallel.
The gap will get bigger as the price of the product rises.
Why do government impose/reduce taxes?
Generate Tax revenue for the government
Discourage consumption of a ‘harmful’ product
Encourage consumption of a ‘good’ product
Tax incidence
The impact/burden of a tax OR the amount which someone is made worse off by the tax.
Price inelastic good - the burden is on the consumer
Price elastic good - the burden is on the producer
Subsidy
a payment per unit of output from the government to a producer in order to lower costs or increase ouput. More will be supplied at every price
Specific subsidy
Also know as a ‘per-unit-subsidy’; a specific amount is given for each unit of the product
Percentage subsidy
a non parallel shift of the supply curve
Why do governments give subsidies?
- Lower the price of essential goods for consumers - increasing consumption
- Guarantee supply of product that government sees as necessary because it is a basic food supply for consumers or an important industry for employment
- Enable producers to compete with overseas trade
- encourage consumption of goods the government sees as positive for society
Evaluating a subsidy
- Opportunity cost - government is not spending on other things
- inefficiency of producers - helping them to compete against foreign producers means it is no longer a ‘free market’
- even if consumers benefit from lower prices, they are paying for it in taxes (taxpayers fund subsidies)
- damage to sales of foreign producer
Price controls
When the governemnt intervenes in a market and sets the price above or below the equilibrium price
Productive/technical efficiency
where each firm pursues the least cost method of production
Allocative efficiency
where firms produce goods that directly satisfy wants (price = marginal cost) and where resources are allocated into their best possible use
Maximum Price
the government intervenes in the market and sets price below the equilibrium leading toa shortage or excess demand
Maximum Price Consequences
- shortage
- black market/ underground market
- queues and unfair systems
- producers may start to decide who is allowed to buy
- non price rationing (waiting in line/first come first served, coupon distribution, sell to preferred customers)
allocative inefficiency
welfare loss
