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 (VAT)
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 for inferior goods?
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 achieve specific economic and social objectives, typically to protect producers or ensure fair wages
What are the advantages of maximum price?
Protects consumers
Reduces consumers
Prevents price gouging
Encourages consumption
What are the disadvantages of maximum price?
Shortages
Reduced quality
Black markets
Reduced supply
Inefficiency
What are the advantages of minimum price?
Protects producer’s income
Ensures fair wages
Promotes economic stability
Encourages investment and production
Improves quality
What are the disadvantages of minimum price?
Excess supply
Inefficient allocation of resources
Black markets
Reduced consumer welfare
Inequitable distribution of surplus
What is state provision?
Refers to goods and services that are provided by the government rather than by private firms
What are some advantages of state provision?
Ensures equal access
Reduces Inequality
Addresses market failure
Promotes social welfare
Stabilises the economy
What are some disadvantages of state provision?
Inefficiency
Higher taxes
Over-reliance on government
Limited choice and innovation
Budget constraints
Misallocation of resources
Administrative costs and Bureaucracy
What is privatisation?
Refers to the process of transferring the ownership and control of a business, industry, or service from the public sector to the private sector
