Micro economics

Who does the tax burden fall on when a product is price inelastic?

• The majority of the tax would fall on the consumer

• As it is an addictive

• So a 1% increase in price causes a less than proportional decrease in the quantity demanded

• Firms have little incentive to reformulate

Who does the tax burden fall on when a product is price elastic?

• The majority of the tax burden would fall on the producer

• As a 1% increase in price cause a greater than proportional decrease in quantity demanded

• Consumers will find a substitute

• Firms will loose a lot of revenue, large incentive to reformulate

What 2 ways and how can the government solve excess demand when using a Pmax?

• Put a subsidy to decrease the costs so that more can be produced and supplied, everyone who wants an appartment at price Pmax can get one

• Direct provision the government will directly build and rent out houses at price Pmax although building is expensive they would earn some government revenue from renting them out

What can the government do to reduce the excess supply when a price Pmax is implemented?

• The government buys the excess demand

• So all the butter produced is sold at a gauranteed high price

• Money spent by govt buying and storing goods could have been used elsewhere

Legislation and Regulations

• Class A drugs are illegal in the UK to improve health care

• Primary and Secondary education is compulsory in the UK to increase education of workforce

How effective is a legislaton

• It would decrease consumption as it forces people to behave in a certain way however parallel markets may form with no regulations

• It needs to be effectively enforced and monitored

Examples of nudges

• Packaging regulations on cigarrates to improve health

• Automatic enrollment as an organ donor and opt out to encourage organ donation

Perfectly rational thinker

They think every decision through carefully and have access to all the information so always make efficient choices to maximise their benefit

Irrational thinker

make decisions impulsively with limited information and they have self-control issues so are biased towards short term satisfaction. They also consider the tastes of other people

Two types of cognitive biases

Anchoring bias

• Consumer make irrational decisions because their tastes are anchored to the first thing they see

Social conformity bias

• Consumers make irrational decisions because they just copy what other people buy

Choice architecture

Default option

• Change the option that consumers end up with if they choose nothing. As consumer will usually stick with this option the default option should be the most efficient choice

Mandated choices

• Take aways the default option and force consumers to make a decision this encourages them to think more carefully about their choice

Examples of public goods

• Street lights

• Public parks

Free rider problem

Because public goods are non-excludable and non-rivalrous if one person pays for the good “free riders” will benefit without paying

In a free market the good will not be provided it is optimal to wait for someone else to buy the good

Solutions to non-provision of public goods

• Direct provision the government pays for the good itself and makes all those benefiting from the good pay a little towards it to collect revenue

• Contracting out to private sector government could provide infrastructure around the good but the give goods to private firms allowing them to use the infrastructure to provide for consumers

For an inferior good what is its YED

An increase in Y causes a decrease in QD

For a necessity what is its YED

An increase in income leads to a less than proportional increase in QD

For a luxury Good what is its YED

An increase in Y leads to a greater than proportional increase in QD