Unit 3 - Government microeconomic intervention

Question 1

Why can’t public goods be provided through the market system?

Answer 1

Since public goods are non-rival and non-excludable, it’s not possible to prevent someone from benefitting from the good/service when they haven’t paid for it

Question 2

How can the government intervene with controlling prices in the market?

Answer 2

High prices:
- Poorer communities can’t afford essential goods (rice or bread) which negatively impacts their standard of living.
- Govt introduces maximum price controls to control prices from rising too high.

Low prices:
- Very low prices can make certain producers fall out of business.
- Eg: Govt needs to intervene in certain agricultural markets to help producers maintain their incomes.
- Govt can use minimum price controls to help control really low prices especially for demerit goods to discourage consumption.

Unstable prices:
- If market forces are left alone, there may be great fluctuations in price which could lead to great variations of supply over a period of time due to difficult weather conditions

Question 3

Define indirect tax

Answer 3

Tax levied on the goods and services paid for by the consumer

Question 4

Define specific tax

Answer 4

It’s a specific/fixed amount of tax placed on a particular good

Question 5

Define impact of a tax

Answer 5

The person or company in which the tax is levied

Question 6

Define incidence of a tax

Answer 6

The distribution of the burden of tax

Question 7

Define subsidy

Answer 7

It’s a grant given to producers by the government to increase the production of goods and services

Question 8

Define direct provision of goods and services

Answer 8

This is where the government decides to provide particular goods and services itself

Question 9

Define maximum price

Answer 9

Maximum price is the highest possible price a producer can set and is imposed below the market equilibrium price

Question 10

Advantages of maximum price

Answer 10

• Price of essential goods can be limited to make it more affordable for people
• Housing market –> rent could be made less expensive for people
• Transport market –> transport fares can be restricted from going above a certain limit

Question 11

Disadvantages of maximum price

Answer 11

• Max prices lead to excess demand which creates queues/waiting lists
• These queues can lead to corruption or bribery of the people who are responsible in regulating the waiting list
• Black markets can arise where the supply is increased through illegal methods outside the market. In this case, the price is likely to be above the max price in the formal market

Question 12

Define minimum price

Answer 12

It’s the lowest possible price producers are allowed to charge consumers and is imposed above the market equilibrium price

Question 13

Define price stability

Answer 13

This is where the government takes action due to fluctuations in price as a result of unplanned fluctuations in supply. (Occurs in agricultural markets due to bad weather conditions, natural disasters, pests, etc)

Question 14

Define buffer stock

Answer 14

It’s where the government holds an amount of a commodity to limit price fluctuations in the market

Question 15

Describe the buffer stock scheme diagram (refer back to diagram drawn on notes)

Answer 15

1. The government operating a buffer stock scheme would want to keep the price at P and quantity at Q in the market.
2. The supply curve S1 has an equilibrium quantity of Q1 and equilibrium price of P2. In this situation, the government would want to buy the extra output shown between Q and Q1 and store it, and this would keep the price at P.
3. The supply curve S2 has an equilibrium quantity of Q2 and equilibrium price of P1. In this situation, the government would sell the extra output shown between Q and Q2, and this would keep the price at P.

Question 16

Advantages of the buffer stock scheme

Answer 16

1. Overcomes the problem of wide price fluctuations from one year to another
2. If prices can be controlled through buffer stock scheme, this means that producer’s incomes they receive will be more stabilized
3. When producer’s incomes are more stabilized, this encourages them to make more long-term plans

Question 17

Disadvantages of the buffer stock scheme

Answer 17

1. It’s not easy for the government to set the equilibrium price because producers want the highest price possible, and consumers want the lowest price possible.
2. Buffer stock needs to be paid by somebody. Government may pay for the scheme or may want producers to contribute to the cost
3. If there’s succession of good harvests, it’s hard to store it all. If there’s succession of poor harvests, it’s hard to store supplies.
4. Concern about perishability of certain goods

Question 18

What’s the difference between income and wealth?

Answer 18

Income = It’s the money received on a regular basis (flow concept)
Wealth = Wealth is possessions that have a monetary value (stock concept)

Question 19

Define gini coefficient

Answer 19

This is a measure of distribution of income inequality in an economy. The lower the figure, the more equal the distribution of income is

Question 20

What are the economic reasons for inequality in income and wealth?

Answer 20

1. Employment
   - An increase in unemployment leads to less salaries received by people and more benefits given.
   - When there’s a decrease in full-time employment and an increase in part-time employment, this leads to income inequality as people are paid less in part-time.
2. Government policy
   - Many workers may have experienced a “wage freeze” where their salaries are lowered due to govt policies to reduce the rate of inflation.
   - This lowers the people’s standard of living
3. Taxation
   - Higher taxes will be placed to increase public revenue
   - Regressive taxes may be charged to tax people on lower incomes than high incomes
4. Distribution of income
   - People who already have wealth are able to invest and create more wealth
   - The existing wealth people have in the economy makes inequality a vicious cycle

Question 21

Define transfer payments

Answer 21

It’s a payment made to an individual by the government where there are no goods or services exchanged

Question 22

What are two policies to redistribute income and wealth?

Answer 22

1. Minimum wage
   - Govt may decide to set a min wage rather than let supply and demand factors in market determine the wage.
   - One problem is that employers may not be willing or able to pay all its workers the min wage, so some may have to live on benefits.
2. Transfer payments
   - This is the revenue received from the govt and is used to provide financial support to people (social security payments, pensions)

Question 23

What is the effect of transfer payments in the market?

Answer 23

• Supports people who are in need of financial help or less well off
• Eg: Unemployment benefits
• Some argue the payment is too high and this may negatively affect the labor market where some people aren’t willing to make themselves available for employment

Question 24

Define progressive tax

Answer 24

This is when the individual’s proportion of income paid in tax increases as their income increases

Question 25

Define regressive tax

Answer 25

This is when the individual’s proportion of income paid in tax falls as their income increases

Question 26

Define inheritance tax

Answer 26

It’s the tax levied on the property, possessions, and money on someone who has died

Question 27

Define capital gains tax

Answer 27

It’s the tax placed on the profits from a sale of an asset