Subsidy and market failure Flashcards
What is a subsidy ?
A money grant to producers given from the GOVT in order to reduce the costs of production and to encourage an increase in output
How do subsidies solve the issue of underconsumption of goods via positive externalities of consumption ?
Subsidy lowers cost of production
Reduces the price and increases the quantity supplied in the market
More people buy the good as it is cheaper which solves underconsumption issues
Allocative efficiency is achieved and welfare is gained
How do subsidies solve the issue of underproduction of goods via positive externalities of production ?
Reduces the cost to produce the good product / service , as a result they are able to release more into the market and also reduce the cost of their goods to encourage more consumption
What are some counterpoints of using subsidies to solve market failure ?
Funding the subsidy may result in cuts in spending elsewhere
Subsidy needs to be set at the most efficient rate to be beneficial
Firms may waste the subsidy on bonuses and not for the actual purpose which poses no benefits to the market
If market demand is inelastic , a price change will not impact demand that much
