Government Intervention Flashcards
What do governments use indirect tax for?
To affect the supply of some goods/services
What are the two types of indirect tax?
Specific tax & Ad Valorem tax
What is a specific tax?
A fixed amount that is charged per unit of a particular good, no matter what the price of the good is
What is an Ad Valorem tax?
Taxes that are charged as a proportion of the price of a good
What is the effect of indirect tax on producers?
They increase their costs, causing the supply curve to shift left
What goods do governments normally put indirect taxes on?
Goods that have negative externalities
What is the aim of taxation on negative externalities?
To internalise the externality, the additional tax creates revenue for the government, they can use this money to offset the effects of the good
What does the amount of tax passed on to the consumer depend on?
The PED of the good, if the good is inelastic most of the extra cost will be passed on to the consumer, if it is elastic most of the extra cost will be absorbed by the producer
What are the advantages of taxation?
- The costs of negative externalities is internalised
- If the demand for the good doesn’t reduce, there is still benefit that the revenue gained by the government can be used to offset externalities
What are the disadvantages of taxation?
- It can be difficult to put a monetary value on the cost of the negative externalities
- Demand for the good will not be reduced if the good is price inelastic
- Firms may choose to relocate to avoid the indirect tax, which would mean they would not be paying tax anymore
- The money from the taxes may not be spent on internalising the externality
What is a subsidy?
Money paid to producers by the government to encourage the production and consumption of goods and services with positive externalities
What are the advantages of subsidies?
- The benefit of goods with positive externalities is internalised, the cost of the externality is covered by the government subsidy
- Subsidies can change preferences
- Positive externalities are still present
- Subsidies can support a domestic industry until it can exploit economies of scale and become internationally competitive
What are the disadvantages of subsidies?
- It is difficult to put a monetary value on the benefit of the positive externalities
- Subsidies have an opportunity cost
- Producers may become reliant on the subsidies
- Effectiveness of subsidies depends on elasticity of demand
What are price controls?
A limit set by the government on a good or service
Why does the government set maximum prices on goods and services?
To increase consumption of a merit good, or to make a necessity more affordable
Why does the government set minimum prices on goods and services?
To make sure suppliers get a fair price
What are the advantages of maximum price?
- Help increase fairness
- Can prevent monopolies from exploiting customers
What are the disadvantages of maximum price?
- Since demand is higher some people who want to buy the product won’t be able to
- Governments may need to introduce a rationing scheme to allocate the good
- Excess demand can lead to a black market for the good
What are the advantages of minimum price?
- Producers will have a guaranteed minimum income, which encourages investment
- Stockpiles can be used when supply is reduced
What are the disadvantages of minimum price?
- Customers will be paying a higher price than the market equilibrium
- Resources used to produce excess supply could be used elsewhere - inefficient allocation of resources
- Destroying excess goods is a waste of resources
What is state provision?
When the government provides certain goods or services
What are some advantages of state provision?
- Reduces inequalities in access
- Can redistribute income effectively
What are some disadvantages of state provision?
- Less incentive to operate efficiently
- May fail to respond to consumer demands as it lacks motive of profit to determine what’s supplied
What is privatisation?
The transfer of the ownership of a firm/industry from the public sector to the private sector
What are disadvantages of privatisation?
- Privatised firms have less focus on safety and quality, more focussed on reducing costs and increasing profits
- Private firms may need regulating to prevent private monopolies
What are advantages of privatisation?
- Increased competition improves efficiency
- Improves resource allocation
- Enable the building of important facilities that the government may not be able to afford
- Government gain revenue from selling firms
What are regulations?
Rules enforced by the government, usually backed up with legislation, which means legal action can be taken against those who break them
What is deregulation?
When rules are removed to lower barriers to entry and to encourage competition
What are the advantages of deregulation?
- Improves resource allocation
- Can prevent private monopolies
What are the disadvantages of deregulation?
- Difficult to deregulate some natural monopolies
- Deregulation can’t fix market failure such as negative externalities
- May mean there is less safety and protection for customers
What is competition policy?
Rules that make sure businesses are competing fairly with each other
What does competition policy aim to do in a market?
Increase competition
What authority monitors competition?
Competition and Markets Authority (CMA)
What are pollution permits?
Regulated allowances that allow a producer to emit a certain level of pollution in a period of time
What are advantages of pollution permits?
- They encourage firms to be more efficient and pollute less
- Governments can use any revenue from fines to invest in other pollution reducing schemes
What are disadvantages of pollution permits?
- Optimal pollution level can be hard to set
- Pollution permit scheme creates new market, may result in market failure
- High levels of pollution by those with multiple pollution permits
What is nationalisation?
When a government takes control of a firms/industry that was previously privately owned
What is government failure?
When government intervention causes a misallocation of resources
What is regulatory capture?
When firms covered by regulating authorities influence their regulation decisions to ensure the outcomes favour their company
