Week 11 Gov Intervention (Topic 9 & 10) Flashcards
What causes market failures?
- Externalities
- Public goods
- Market power
- Immobility of factors
- Protection of public interest
Describe external cost of production
External costs of production
MSC > MPC (where MSB = MPB)
MSC = MPC + MEC
Upward sloping MEC
Overconsumption of a good leading to MCS being larger than MPC
Describe external benefit of production
external benefit of production
MSC < MPC (MSB=MPB)
Downward sloping MEB
Under consumption
increase until MSC = MPC - MEB
Describe external cost of consumption
external cost of consumption
MSB < MB (MSC = MPC)
Upwards Sloping MEC
Over consumption
Decrease consumption until
=> MSC = MSB - MEB
Describe external benefits of consumption
external benefits of consumption
MSB > MB (MSC =MPC)
Downward slopping MEC
Under consumption at a price too low
Increase price + quantity until
=> MSB = MPB + MEC
What are public goods?
Describe their characteristics
Goods produced or subsidised by the government
= > free market will not produce them
Non-rivalry
- One person’s consumption does not prevent another person’s consumption
Non-excludable
- Everyone can use the good
Why and how does the government intervene in monopoly markets?
Monopoly profit maximisation produces a dead weight loss (under prodcution)
Solution
=> Subsidise firm to increase production until MC = AR = MSB = MSC
What are the 8 types of government intervention?
- Taxes/subsidies
- Minimum wages
- Tariffs
- Blocking mergers
- Deregulation
- Fiscal policy
- Policy to increase productivity
8 Environmental policy
What are the arguments against gov intervention
- Causes shortages or Surplus
Price Floor = surplus
price ceiling = Shortage - Insufficient information
=> full costs + benefits unknown - Bureaucracy and Costs
- Increased administration costs - Lack of market incentive
- allows inefficient firms to survive - Shifts of policy
- Makes future planning hard - Lack of freedom
- Reduces free choice of economy
How can government intervention be reduced?
- Privatisation
- Deregulation
- Contracting out
What are the pro privatisation arguments?
- Market forces
- Increased competition
- Efficient spending - Less government Intervention
- Less political influence - Financing tax cuts
- reduced debt + increases tax revenue
What are the arguments against privatisation?
- Natural monopolies
- Public interest
- MSB & MSC generally ignored
What is contracting out and what does it do?
Contracting out
- government offering contracts for jobs
increases ex-ante competition
What are incentive payments?
Two part payment plans to ensure contact achieves desired outcome
What are the issues of contacting ?
Ensuring the contacts are completed properly
What are the advantages and disadvantages on tax/subsidies as a government intervention?
Pros
- Market sets equilibrium
- Can increase welfare
- Holds firms accountable
Cons
- Governments need perfect information
- Taxes impact firms differently
How do taxes affect markets with elastic demand?
- Large drop in quantity
- small drop in price
- Producers take majority of tax burden
How do taxes affect markets with inelastic demand?
- small drop in quantity
- large increase in price
- Consumers take majority of tax burden
How do taxes on elastic goods affect producers?
- Earn less per unit
- Drives innovation as firms compete for the reduced quantity
What are the two types of controls for externalities?
- command and control
- Impose quantitive limits on externalities - Tax/subsidise
- Tax negatives and subsidise positives
What are the advantages of a tariff?
- gov revenue
- Protects infant industries
- Encourages new market entrants
- Allows self sufficiency
- Protects domestic goods
- Preserves traditional industries
What are the disadvantages of tariffs?
- Creates DWL
- Allows inefficient markets to survive
- Retaliation from other countries
What is a natural monopoly?
Where is P set?
Market where one firm can produces at a lower average total cost and supply the whole market
P = normal profit maximisation MC=MR
What is a nationalised monopoly?
Where is P set?
What are the disadvantages?
A nationalised monopoly is a government-owned monopoly
p = MC
Cons
- run at loss
- x - efficiency (subsidies by another tax)
What is a state regulated monopoly?
Where is P set?
Pros and Cons?
Monopoly where price is controlled by govenment
P is set at D = LRAC
Pros
- No subsidy needed as earns normal profit
Cons
- Not allocatively efficient
- Less consumer surplus
- No incentive to innovate to reduce LRAC
What is price Cap regulation?
Pros and cons?
Government sets maximum price of the monopoly
pros
- incentivises innotvate to reduce LRAC by allowing economic profit
Cons
- Hard to pick correct P
=> too low means forced losses
=> too high means excessive profits
