2.8 Real life examples [15] Flashcards
Market Failure
The failure of the free market to allocate resources efficiently to what is deemed socially desirable
Externalities
When the actions of consumers or producers give rise to negative or positive spill-over effects on third parties
Positive externalities of consumption
The positive spillover effects generated to third parties as a result of consuming merit goods
Negative externalities of consumption
The negative spillover costs generated to third parties as a result of consuming demerit goods
Negative externalities of production
The negative spillover costs generated to third parties by producers during production activities.
Positive externalities of production
The positive spillover costs generated to third parties by producers during production activities.
Advantages of carbon tax in correcting emissions
- Long term benefits – create incentives for firms to use cleaner technologies in production
- Internalize externality – producers and consumers pay for the environmental costs
- Tax revenue generated
- Easily implemented
disadvantages of carbon tax in correcting emissions
- Regressive – low-income groups pay a higher portion of their income for the tax
- Ineffective for products with inelastic PED
- Imperfect market information – difficult to accurately calculate the level of externalities and carbon tax in order to achieve the socially-optimum output.
Advantages of subsidies in correcting positive externalities
- Incentives production and consumption.
- Reduces the price of the good, increasing its affordability to lower income groups.
Disadvantages of subsidies in correcting positive externalities
- Imperfect market information – difficult to accurately calculate the level of subsidy and externalities in order to achieve the socially-optimum output.
- Effectiveness is dependent on PED – larger subsidies required for price inelastic products.
- Opportunity cost – Subsidies require government spending, which always involves foregone benefits of alternative uses.
Advantages of indirect taxes in correcting negative externalities
- The price increase discourages consumption.
- The higher cost discourages production.
- Tax revenue is generated for the government.
Disadvantages of indirect taxes in correcting negative externalities
- Regressive – low-income groups pay a higher portion of their income for the tax.
- Relatively ineffective for goods with inelastic PED
- Imperfect market information means the size of the tax is unlikely equal to the external cost.
- Emergence of parallel markets – smuggling activities for demerit goods.
Disadvantages of direct provision in correcting positive externalities
Opportunity cost – Direct provision requires government spending, which always involves foregone benefits of alternative uses.
Economic inefficiency – Goods and services may be provided free of charge or at a very low cost, potentially resulting in overconsumption such use of A&E (accident and emergency) services for common illnesses.
Inequality – If the goods provided are in shortage, the government may need to prioritize certain groups e.g., healthcare services for the elderly.
Carbon tax example
Uk published calculations that suggest creating an international price for carbon emissions could reduce global greenhouse gases by 12 percent while costing less than 1 percent of global GDP.
The carbon price for the scheme year beginning on 1 January 2021 is £47.96. The carbon price for the scheme year beginning on 1 January 2022 is £52.56.
Indirect tax example
Tobacco tax rate increased by about 31.5%(HK$0.6 per cigarette) in the 2023-24 Budget.
The cigarette price of a pack of the major brands in Hong Kong is about HK$74. Price of HK$62 to at least HK$74
The tobacco tax is about HK$50
Smoking rates drop 4% for every 10% price increase
