Government intervention- TB Flashcards
What are taxes?
Compulsory fees levied on individuals or firms by government
What is indirect tax? + example
A tax levied on expenditure (spending) on goods or services e.g. VAT
What is direct tax? + example
A tax charged directly to an individual based on a component of income e.g. income tax
What is incidence of tax?
The way in which the burden of paying a sales tax is divided between buyers & sellers
What is specific tax? + example
A tax of a fixed amount imposed on purchases of a commodity e.g. council tax
What is ad valorem tax? + example
A tax levied on a commodity set as a % of the selling price e.g. VAT
What is excess burden of a sales tax?
The deadweight loss to society following the imposition of a sales tax
What is polluter pays principle?
An argument that a firm causing pollution should be charged the full external cost that it inflicts on society
What do ad valorem taxes do to a supply curve?
Shifts left and make PeS more inelastic
What are taxes most heavily put onto & why?
Demerit goods- internalise negative externality & payment for external & private cost
What is hypothecation?
Spending tax revenue in the same area in which the revenue was generated
What does specific tax do to supply & demand curves?
Shifts S curve left & contraction in demand
Where is consumer burden after a shift due to a tax?
Area of rectangle inside P1, up to P2, Q2 (at equilibrium on S2/MSC and at meeting to P1)
Where is producer burden after a shift due to a tax?
Area of rectangle inside P1, down to P3, Q2 (at meeting on S1/MPC and P1)
How does tax reduce market failure?
Makes new equilibrium of demerit goods closer to social optimum where MSB=MSC- more allocatively efficient
Where is welfare loss on a tax diagram?
Area of triangle pointing left from vertical line from Q1 to S2/MSB to P2Q2
If PeD is 1) inelastic and 2) elastic who bears more of the tax?
1) Consumer
2) Producer
If PeD is 1) elastic & 2) inelastic what effect does a tax have on QD?
1) Larger fall in QD
2) Smaller fall in QD
What does tax effectiveness depend on? (judgments too)
1) The size
2) PeD elasticity
What are 2 advantages of using a tax?
1) Market based solution
2) Raises revenue- can be hypothecated
What are 3 disadvantages of using tax?
1) Hard to value negative externalities
2) Redistribution effects- lower income more effected
3) Collection issues- expensive
What is a subsidy?
A grant given by the government to producers to incentivise production of a good or service
What goods tend to be subsidised?
Goods with positive externalities- Merit goods
What do subsidies do?
Lower the price of a product as they act as extra revenue- increasing demand & supply
What does a subsidy do to supply & demand curves?
Shifts S curve right & an extension in demand
Where is producer gain after a subsidy?
Area of rectangle P1-P2-Q2
Where is consumer gain after a subsidy?
Area of rectangle P1-P3-Q2 (bottom left point is new equilibrium)
What does a subsidy do to price on a diagram?
Falls from P1 to P3
If PeD is 1) elastic & 2) inelastic how effective are subsidies?
1) More effective
2) Less effective
What is state provision/ government expenditure?
Where the government decides which goods or services to provide & spends money providing them
What are 3 examples of state provision?
1) Armed forces
2) Roads
3) Healthcare
Who could provide the goods/ services in state provision?
The government or private companies
What are 4 reasons that governments use state provision?
1) Increase consumption of merit goods
2) Ensure public goods are produced/ consumed
3) Reduce inequality of access due to (lack of) wealth
4) Redistribute income
What is the correct level of state provision?
it is a value judgement
What are 2 advantages of state provision/ government expenditure?
1) Reduces inequality
2) May support macro objectives
What are 4 disadvantages of state provision/ government expenditure?
1) Expensive for government= high opportunity cost
2) No market disciplining producers- missing markets
3) Encourages dependence- reliance on state provision
4) Reduces innovation- no invisible hand
What does a state provision diagram look like?
Supply curve big shift right to S2, large extension in demand
What is government spending per unit on a state provision diagram (using points on diagram)?
Area of P3 to new equilibrium, to P2 across to S1
What is a price control?
A legal maximum or minimum price
What is a price floor?
A legal minimum price
What is a price ceiling?
A legal maximum price
What are 3 examples of a price floor?
1) Minimum wage
2) Alcohol minimum unit pricing
3) Farming product
What is an example of a price ceiling?
Rent control
What does a maximum price do?
Increases consumption & utility as the good or service is more affordable
When would a maximum price have no impact?
If it is set above the equilibrium price
When would a maximum price lead to excess demand and a shortage?
If it is set below the free market equilibrium
What does a minimum price do?
Increases: Production, the price producers receive and Producer Profits
When will a minimum price have no impact?
if it is set below the equilibrium price
When would a minimum price lead to excess supply and a surplus?
If it is set above the free market equilibrium
What does a minimum/ maximum price diagram look like?
Normal D&S graph and a horizontal line for min or max price
What are 2 advantages of maximum prices?
1) Cheap for government to impose
2) Reduces monopoly power
What are 3 disadvantages of maximum prices?
1) Shortage reduces production
2) Rationing may ensue
3) Black markets
What are 2 advantages of minimum prices?
1) Encourages investment
2) Stockpiles can mitigate impact of severe weather
What are 3 disadvantages of minimum prices?
1) Lowers utility
2) High opportunity cost
3) Allocative inefficiency
Why does a maximum price compare unfavourably to a subsidy?
Max prices fail to increase consumption as producers reduce production
Why does a minimum price compare unfavourably to a tax?
Tax raises revenue & improves allocative efficiency more
What is a merger?
Two or more firms joining to form a new firm
What is a cartel?
An illegal agreement between firms on price and/or output with the intention f maximising their joint profits
What is competition policy?
A form of regulation used to protect consumers and firms from being exploited by firms with market power
What is a competition policy’s main functions?
1) Investigate mergers that could lead to a ‘substantial lessening of competition’
2) Assess markets where there may be competition problems
3) Investigate abuse of dominant position
4) Protect consumers
5) Prosecute cartels
What are 2 advantages of competition policy?
1) Cheap
2) Threat of enforcement
What are 2 disadvantages of competition policy?
1) Regulatory capture- CMA becomes too close to firms under investigation
2) Size- unclear
What is a buffer stock?
A scheme intended to stabilise the price of a commodity by buying in periods of excess supply and selling when supply is low
Why may a buffer stock be used?
When the price of a commodity is volatile
What can cause a shortage?
Drought, disease, war etc
What can cause surpluses?
Favourable weather conditions
What are 2 advantages of buffer stocks?
1) Market based solution- incentivises production
2) May be self-funding
What are 2 disadvantages of buffer stocks?
1) Limited deployability
2) May be expensive- unpredictable
What 2 reasons do buffer stocks compare favourably to a subsidy?
1) Cheaper and self-funding
2) Market-based solution- not dependent on subsidies
Why 2 reasons do buffer stock compare unfavourably to subsidy?
1) Cost to purchase surplus may be unaffordable- unpredictable price
2) Buffer stock increases price in a surplus year
What are legislations?
Laws created by government to enforce regulations
What are regulations?
Rules created by government to control activities of producers and consumers by changing their behaviour
What is prohibition?
An attempt to prevent the consumption of a demerit good by declaring it illegal
What are 4 things regulations do?
1) Influence demand or supply for/of a good or service
2) Can restrict the sale of demerit goods
3) Offer producers and consumers protection
4) Set minimum environmental standards
What does prohibition cause on a S & D diagram?
Big shift left in supply
What are 2 advantages of regulations?
1) Regulations are cheap to create
2) Regulations can be self funding- fines
What are 4 disadvantages of regulations?
1) Regulations can be difficult to set- too weak or strong
2) Regulations increase firms’ costs
3) Regulations can be expensive to enforce
4) Regulations may require international agreement
What 2 reasons do regulations compare favourably to a tax?
1) If allocative efficiency=0, prohibition leads to 0 consumption more than tax
2) If the behaviour doesn’t have a price on it, taxes cannot work
What 2 reasons do regulations compare unfavourably to a tax?
1) Taxes raise more revenue
2) Easier to predict, measure & understand costs imposed by a tax
What is information provision?
When the government educates the public to help consumers make better choices
What is information provision a solution to?
Information failure
What are 2 advantages of information provision?
1) Cheap to implement
2) Pervasive
What are 4 disadvantages of information provision?
1) Ineffective against irrationality (e.g. addicts)
2) Limited impact- other forms of market intervention needed
3) Loopholes- Firms can find ways around laws
4) Complex
Why does information provision compare favourably to legislation?
Can be imposed quicker at a lower opportunity cost
Why does information provision compare unfavourably to legislation?
Larger size of market failure tackled with legislation
What is a pollution permit system?
A system for controlling pollution based on a market for permits that allows firms to pollute up to a limit
What is polluter pays principle?
Argument that a firm causing pollution should be charged the full external cost that it inflicts on society
What are property rights?
Legal control or ownership of a good
What are 3 examples of tradable pollution permits?
1) EU emissions trading system
2) California zero emission vehicle program
3) Regional greenhouse gas initiative
Who issues or sells pollution permits to firms & what do the permits do?
The government, allows firms to pollute up to a limit
What will less polluting firms do with their pollution permits?
Sell them to firms who require more pollution permits
What do pollution permits incentivise & how?
Firms to lower pollution by financially rewarding firms who have lower pollution & financially punishing firms with higher pollution
What can be lowered to put pressure on firms to lower pollution?
The cap (cap and trade)
What are 2 advantages of tradeable pollution permits?
1) Creates market based incentives
2) Overall level of pollution is controlled
What are 2 disadvantages to tradeable pollution permits?
1) Must be enforced- expensive or difficult
2) Complex to create and operate
What are 2 disadvantages to tradeable pollution permits?
1) Must be enforced- expensive or difficult
2) Complex to create and operate
What 2 reasons do tradeable pollution permits compare favourably to a tax?
1) Incentivises firms to lower pollution more inexpensively
2) Firms know the best way for them to cut pollution
What 2 reasons do tradeable pollution permits compare unfavourably to a tax?
1) Correct number of permits difficult to determine
2) Third parties not compensate for the external costs incurred from pollution
What is contracting out?
A situation where the public sector places activities in the hands of a private firm & pays the whole provision
What is competitive tendering?
When the public sector calls for private firms to bid for a contract for provision of a good or service
What is a public-private partnership?
When a government service or private business venture is funded and operated through a partnership of government & the private sector
What is a private finance initiative?
A funding arrangement here the private sector designs, builds, finances and operates an asset and associated services for the public sector in return for an annual payment linked to its performance
Why might a government have a private firm design, build or operate a service?
Better expertise available & less pressure to keep costs low
What are 2 advantages of public-private partnerships?
1) Competition lowers costs
2) Risk shared by private & public sector- aligned incentives
What are 2 disadvantages of public- private partnerships?
1) Health & safety issues- private sector less likely to prioritise safety or service standards than the government, to increase profits
2) Borrowing costs higher in private sector
What 2 reasons do public- private partnerships compare favourably to… and what are they?
1) Competition in tendering can lower costs- unavailable in other provision’s
2) Private sector expertise could lead to lower costs and improved quality
Both hypothetical
What 2 reasons do public- private partnerships compare unfavourably to… and what are they?
1) Few firms can deal with the complexity of large PFI contracts- little competition
2) PF2 ended- drawbacks outweighed the advantages
Actual- evidence based
What is government failure?
A misallocation of resources arising from government intervention- causing a less efficient alloctaion of resources & imposes a welfare loss on society
What are 5 consequences of the government intervening beyond the social optimum?
1) Incur opportunity costs
2) Reduce private sector investment
3) Increase unemployment
4) Reduce consumer choice
5) Cause unanticipated behaviours/effects
What are 2 causes of government intervention?
1) Low quality information
2) Regulatory capture
What are 2 consequences of government failure?
1) Inequality- low income households more likely to be harmed
2) Society worse off than before
How large are the risks of government intervention (judgement gvnmt failure)?
Chance of society being worse off with government intervention is low- gvnmt can correct failing policies with new info= temporary issues
