Government Microeconomic Intervention Flashcards
Define Government Failure
When all costs of intervention outweigh the benefits of intervention, worsening the allocation of scarce resources and social welfare as the end result
How is Information Failure a cause of Government Failure?
The assumption that politicians are expert decision makers doesn’t hold true as:
- Externalities are difficult to measure and value.
- Assessing a sufficient magnitude for the policy is difficult.
How are Adminstrative / Enforcement Costs a cause of Government Failure?
How does Government Failure Occur?
- Question of Funding as some policies have significant costs [tax or borrowed?]
- Spending could be cut elsewhere
- Consumers may not abide by the policy if it is not enforced
What are some **unintended consequences **that can occur due to Intervention?
- Black Markets
- Inequality
- Unemployment
- Closure or movement of firms
- Dependancy on subsidies
What is a Pigouvian Tax?
Government Interventionist Policy - Taxation
Increases a firms costs of production, but can be transferred.
Ex. Carbon tax
How does a Pigouvian Tax Internalise a NPE?
- MPC shifts upwards reflecting higher prices and lower quantities
- Spillover Effects are internalised as the externality is now accounted for in the price
- Resources move to the Allocatively Efficient Point
How does this act as a hypothecated tax?
The revenue generated is ringfence to surve further market failures
What are some evaluation points of taxation?
Against the assumptions in the diagram
- The Price Elasticity of Demand
- Right Level of Taxation?
- Regressive in Nature
- Black Markets risk
- Can Act Paternalistic [impinge on individuals freedom]
- Cigarette Black Market in the UK was valued at 1.6 billion a year back in 2018
- Value the extent of the market failure : Does it require intervention?
What is a Subisidy?
Government Interventionist Policy
Money grant given to firms by the government to lower costs of production and encourage an increase in output
How does a Subsidy internalise PCE?
- Lowers costs of production encouraging an increase in output
- More of the good is available and consumers account for the ignored externality
- Allocative Efficiency is achieved as resources are allocated where MSB = MSC
What are some Evaluation Points of a Subsidy?
- Cost of the Subsidy
- Setting the Subsidy at the Right Level
- Gurantee of Firms utilising the Subsidy in the most productive way?
- Price Inelastic Demand [Example of Bus fares]
- Question the methods used to fund the subsidy & their consequences [Subsidies need to go to every firm in the industry]
- Undersubsidization or Oversubsidization?
- Firms behaviour with the subsidy [Ex. Increase wages?] Long run dependancy?
- Price may not be the sole factor keeping economic agents from changing consumption [Ex. Quality, Preference, Flexbility]
What are Regulations?
Government Interventionst Policy
Rules/Laws enacted by the government that must be followed by economic agents to change behviour
- Market Friendly Based Approach, does not work through the price mechanism
How do Regulations Internalise Externalities?
- It creates an incentive for economic agents to change their behaviour
- Production / Consumption changes and moves towards the socially optimum level
- Solves issues in the free market without working through the free market, leaving the end result as allocative efficiency
- Innovative Regulation Example : Beijing Roadspace Rationing before the olympics in 2008
What are some Evaluation Points for Regulations?
- Risk of Government Failure is High
- Admin/Enforcement Costs
- Setting the right Regulation [Strict, Weak?]
- Black Markets
- Equity
- Paternalistic and Forceful
- Policy will not work if it is not enforced, economic agents will ignore or bypass it
- Unintended consequences can occur if the policy is not carefully implemented
- Consumers can look for alternate supplies
- Some firms can face difficulties [Old vs New Firms]
- Consider the extent of market failure
Define Tradeable Pollution Permits
Goverment Interventionist Policy
A form of license given by the government that allow a firm to pollute to a given level
- Innovative with parts of regulation, overcomes the overall blanket regulation issue
Analyse Tradeable Pollution Permits
~ A cap is set at what is assumed by the government as the socially optimal level
~ Permits are then issued to match the cap, and a market for tradeable pollution permits is created
~ Firms have a choice, and make a decision based on the least amount of cost, such as investing in green technology or buying spare permits
~ The externality is interalised both ways as the polluter pays by accounting for the spillover effects
~ As a result, production reduces to the socially optimum level and AE is achieved
~ Incentivises firms in the long run, especially for sustainable production methods
- Firms can profit from the sales of permits
- Firms are not burdened by the increasing costs of future permits if they change their methods
- Governments may reduce the no. of permits overtime, financially pressuring firms to change either way
Give an Example of Tradeable Pollution Permits
Chinas Emission Trading Scheme [ETS] implemented in key economic regions such as chongqing, shanghai
China acts as one of the largest emitter of greenhouse gases, much being from coal energy production and heavy industrial activity
Evaluate Tradeable Pollution Permits
- Enforcement
- Setting the Policy at the Right Level
- Unintended Consequences
- International Cooperation may be required [More of a political issue]
* EU ETS suffered from oversupply of permits during 2008-2013 Recession
- Consider the technology required to accurately measure emissions
- Carbon Leakages if firms leave the country due to costs
- Inflationary Pressures
- Climate change is not limited to one or two countries, it is a global market failure, hence interational cooperation is required, which is difficult to obtain, especially from developing countries as it can be expensive to enforce
Define State Provision
Government Interventionist Policy
Direct Provision of goods and services by the government free at the point of consumption
~ Taking over the market completely
How does State Provision Internalise Externalities?
- Allocation of resources at MSB = MSC
- This reduces the problem of underconsumption/production, inequality and missing markets
- Goods are available universally to all economic agents
- Social welfare is maximised as resources are yield the most benefit
Evaluate State Provision
- Excess Demand Problems
- Cost Concerns
- Imperfect Information
- Inefficiency of State Run Firms
- Prices do not change to ration the excess demand, which can lead to consumers paying in other ways like quality or [example of healthcare and normative situations] - hence it can be argued the private sector has a role
- Lack of profit motive removes the motive of quality and efficiency, hence it can be argued if it is the most productive use of public money
What is Information Provision?
Government Interventionist Policy
Government funded information provision through schemes like advertising and education to encourage or discourge consumption
- Does not act Paternalistic
- Market Friendly : Choice & Lesser Risk of Unintended Consequences
How does Information Provision Internalise Externalities?
- Demand shifts through information provision to the social optimum
- Consumers are given the choice/oppurtunity to make rational decisions as they are aware of the true MPB / MSB
- Underconsumption/Overconsumption externalities are internalised as activities move to the social optimum and AE is achieved
Evaluate Information Provision
~ Cost and Gurantee of Sucess
~ It is more long run than short run effective
- Needs to be well targeted and of quality [Consumption & Funding should be questioned]
- Information takes time to reach and be absorbed by economic agents - may require multiple provision schemes especially if demand is inelastic
What is the Tragedy of the Commons
The idea that natural resources over which no private ownership has been established may be over-exploited by economic agents and can lead to resource depletion
Give an Example of Common Resources
Forests - Timber / Pulp
Seas - Minerals and Seafood
Air - O2 / CO2
Why is the Tragedy of the Commons a Problem?
- Economic agents act upon the invisible hand [Metaphor of self interest]
- This leads to exploitation of natural resources, like cutting down too many trees or overfishing
- Results in resource depletion, which can harm future economic generations and activities
[Leads to Negative Production Externalities]
- Self interests could be profit motives or individual choices
Property Rights
Major Policy for Tragedy of the Commons
When owners have a right to decide how their assets may be used
Analyse Property Rights
- Gets into the heart of the Market Failure [Tragedy of the Commons]
~ Property Rights are issued, for example, an economic agent owns a part of a forest
~ This incentivises the private producer not to exploit common resources, such as cutting down many trees as the impact lies on the individual and their family - as well as the future in terms of incomes
~ Hence, the negative externalities would be internalised since the private producer would have to bear the costs of over-exploitation
~ This leads to production moving to the socially optimum level and AE is achieved, as there is lesser depletion of resources and welfare can be increased
- Can also be in a reverse situation, where a non-producer owns a part of a common resource, firms can be sued for trespassing and such [Ultimately depends on power and bargaining between economic agents]
Evaluate Property Rights
- Can Property Rights be Fairly Distrubuted?
- Enforcement Costs
- Equity
- The type of Common Resource should be considered in the situation , it could be possible to distrubute a part of a forest, but not a part of the sea or air
- Policy may need policing for trespassers and such, which the affordability should be questioned
- A common resource that now requires a payment can be unfair to economic agents who are not in a dominant position
