Gov intervention in markets Flashcards
Main reasons for gov intervention
- correct market failure.
- achieve a fairer distribution of income and wealth.
- achieve gov’s macro objectives for economy.
type of gov intervention
2 types of indirect tax
- Specific or unit taxes.
- Ad valorem taxes
Indirect tax
Specific or unit taxes
a fixed amount being added per unit of a good or service, e.g. bottles of alcohol.
Indirect tax
Ad valorem taxes
adding a percentage of the price of good or service, e.g. VAT 20%
type of gov intervention
Why use indirect tax to intervene?
Alter supply of certain goods, they increase costs of firms = supply curve shifts leftwards.
Indirect tax
Advantages
- often placed on goods with inelastic demand = strong tax rev generated for gov to be used for spending.
- use of price mechanism = up to consumers to decide how to adjust behaviour.
- assuming gov’s applied right tax levels = tax helps internalise an external cost e.g. to reflect more accurate impact of neg ex.
indirect tax
Disadvantages
- often placed on inelastic goods = demand may not fall unless tax is large ∴ ineffective tax.
- difficult to place accurate monetary value on external costs ∴ almost impossible to internalise an external cost.
- they take a larger percentage of poorer persons income = unfair.
- UK firms international competitiveness may be reduced by imposition of tax = increases production costs compared to comp.
type of gov intervention
Subsidy
payment made to producers to encourage increased production of a good or service.
type of gov intervention
Why are subsidies used?
to encourage increased production of certain goods services, and increase consumption.
also to promote use of products that reduce external costs.
= shift supply curve to the right
subsidies
advantages
- on merit goods = increase consumption, bringing equilibrum closer to social optimum, helping internalise the external benefit.
- reduce price of a good = more affordable for low income households = reduced effects of relative poverty.
subsidies
disadvantages
- difficult to place monetary value on size of external benefits.
- to fund - carries opportunity cost.
- firms who recieve may become reliant on them, encouraging ineffectiveness laziness + reduce international competativeness in LR.
- If placed on good with inelastic demand, may reduce price but not significantly increase consumption.
type of gov intervention
minimum prices
a price floor placed above the free market equilibrum price.
a min price set above free market equilbibrum = create excess supply.
min prices
advantages
- give producers garenteed min price and income = helps generate reasonable standard of living.
- encourages production of essential products.
- excess supplys may be brought up and stored, be released in times of future shortage.
min prices
disadvantages
- consumers pay higher price = reduced disposable income.
- encorages over-production = inefficent use of resources, excess S = storage = extra costs.
- reduced international competativeness if price raised above foreign competitors.
- in case of tobacco or alchol, may seek cheaper, harmful alternatives leading to gov failure.
type of gov intervention
max prices
a price ceiling above which prices are not permitted to rise.
use = free market equilibrum price be too high for consumers, leading to problems of reduced affordabilty.
impact = max price set below free market price - create excess D.
max prices
advantages
- w/out = some wouldn’t be able to afford certain goods e.g. prescription meds, therefore promotes greater equality.
- can reduce ability of firms with monopoly power to exploit consumers through charging higher prices.
max prices
disadvantages
- some people who want a good or service, will not be able to obtain it, leading to dissatifaction and fustration.
- creation of excess D implies queues, shortages and wait lists - in cases like healthcare can have serious implications.
- may lead to establishment of black markets, such as secondary markets for music and sporting event tickets.
type of gov intervention
direct provision
if viewed that provision of a service/good cannot be left to free market at all (may be provided in insufficient ot excessive quantities - gov will organise the provision of it.
* generally the goods/services will be free or nearly free ‘at the point of consumption’ e.g. state school, medical treatment.
type of gov intervention
regualtions
rules or laws used to control/restrict actions of econ agents in order to reduce market failure.
if firms don’t adhere to the rules, may be punished e.g. fines, limits on trade activity, imprisionment.
type of gov intervention
types of regulations used to tackle market failure.
- banning smoking in public areas.
- min legal age to drink.
- max emission levels on new cars.
- noise threasholds for airports in urban areas.
- set up relatory bodies
Correcting infomation failure
Market Intervention due to Information Gap
Governments intervene in markets when consumers lack information about goods/services, causing over or under consumption due to a lack of understanding about their effects.
Government Methods to Address Information Failure
Governments utilize various methods to rectify information failure, impacting the demand for goods/services.
Examples include
1. compulsory food labeling,
2. health warnings on cigarettes,
3. TV campaigns against alcohol abuse
4. publication of school/hospital performance tables.
Correcting infomation failure
Merit and Demerit Goods in Free Markets
- Merit goods (under-consumed) lack consumption in free markets due to consumers’ limited knowledge about their long-term benefits.
- Demerit goods (over-consumed) suffer from excessive usage due to consumers’ lack of awareness about associated issues.
Correcting infomation failure
Drawbacks of Government Interventions
- High costs of advertising campaigns raise questions about their effectiveness in changing consumer behavior, especially when competing against adept marketing strategies of private companies bombarding consumers with information.
