Government Intervention

What are indirect taxes?

Tax levied upon the purchase of goods or services.

The 2 types are specific and ad valorem.

What are Specific Taxes?

Fixed amounts which are charged per unit of a particular good, no matter what the price of that good is.

What are Ad Valorem Taxes?

Taxes charged as a proportion of the price of a good.

What do indirect taxes do to supply?

Indirect taxes increase the costs for producers so they cause the supply curve to shift to the left.

How does a Specific Tax affect the supply curve?

A specific tax causes a parallel shift of the supply curve . The tax is the same fixed amount at a low price and a high price.

How does an ad valorem tax affect the supply curve?

An ad valorem tax causes a non-parallel shift of the supply curve, with the biggest impact being on high priced goods. The tax is a smaller amount at a low price compared to a high price.

Supply curve with tax tilt upwards more.

What goods do governments tax?

Goods with negative exteranlities, such as petrol, alcohol and tobacco.

UK cigarrettes have a specific tax (called excise duty) and an ad valorem tax on their retail prce.

What is the government's aim of taxation?

To internalise the externality that the good produces, i.e make the producer and/or consumer cover the cost of its externalities. The taxes make government revenue which can be used to offset the effects of the externalities.

What is an example of specific tax?

UK Landfill tax, this tax aims to offset theimpact of landfill on the environment.

What is Landfill tax and what does it aim to do?

When local authorities who dispose of waste at landfill sites are charged an environmental tax. The tax is set at an amount which attempts to reflect the full social costs of using landfill. The tax should encourage recycling, which will reduce the negative externalities caused by landfill thst harm the environment.

What are advantages of indirect taxes?

• The cost of the negative externalities is internalised in the price of the good, this may reduce the demand for the good and the level of its prduction, reducing the effects of the negative externalities.

• If demand isnt reduced, there's still the benefit that the revenue gained from the tax can be used by the government to offset the externalities.

What are disadvantages of indirect taxes?

• It can eb difficult to put a monetary value on the 'cost' of the negative externalities.

• If demand is price inelastic, the demand isnt reduced by the extra cost of the tax.

• Indirect taxes usually increase the cost of production, which reduces a product's international competitiveness.

• Firms may choose to relocate and sell their goods abroad to avoid the indirect taxation.

• The money raised by taxes on demerit goods might not be spent on reducing the effects of the externalities.

What are are the aims of subsidies?

The government may pay subsidies to encourage production and consumption of goods and services with positive externalities. A subsidie increases the supply of a good/service, so the supply curve shifts to the right.

• Subsidies can be used to encourage the purchase of goods/services which reduce the negative externalities.

What are advantages of subsidies?

• The benefit of goods with positive externalities in internalised, i.e the price of goods is reduced

• Subsidies can change preferences

• The positive externalities are still present

• Subsidies support the domestic industry until it gorws to the point it can exploit economies of scale and become internationally competitive.

What are disadvantages of subsidies?

• Can be difficult to put a monetary value on the 'benefit' of the positive externalities.

• Any subsidy has an opportunity cost.

• Subsidies make producers inefficient and reliant on subsidies, meaning theres less of an incentive to reduce costs or innovate.

• The effectiveness of subsidies depnds on the elasticity of demand.

• The subsidised goods and services may not be as good as what they are aiming to replace

What is a maximum price?

A proce ceiling for a good or service which is set below the market equilibrium price, in order to increase consumption of a merit good or to make a necessity more affordable.

What is a minimum price?

A price floor which is set above the market equilibrium price in order to make sure that suppliers get a fair price.

What are advantages of Minimum Prices?

• Producers have a guaranteed minimum income which will encourage investment

• Stockpiles can be used when supply is reduced (e.g. due to bad weather) or as an overseas aid

What are disadvantages of a minimum price?

• Consumers will be paying a higher price than the market equilibrium

• Resources used to produce the excess supply could be used somewhere else

• Government spending on a minimum price sceme could be used in other areas , schemes may have a high opportunity cost

• Destroying excess goods is a waste of resources

Whata re advantages of a maximum price?

• Help to increase fairness, by allowing more people the ability to purchase certain goods and services.

• They can also be used to prevent monopolies from exploiting customers

What are disadvantages of a maximum price?

• Since Demand will be higher than supply,, some people who want to buy the product arent able to

• Government may need to introduce a rationing scheme to allocate the good.

• Excess demand can lead to the creation of a black market for a good.

What is state provision?

Where governments provide certain goods or sevrices.

What are examples of state provision?

• Defence

• Street lighting

• state schools

• NHS

What does state provisio aim to do?

• Governments might provide certain things in order to increase the consumption of merit goods, such as healthcare and education.

• Free provision services can help to reduce inequalities in access, due to diffrences in wealth.

• It can redistribut income, a lot of the money paid in taxes goes towards public services.

How is state provision decided?

The government use value judgemnts about the level of state provision and decide the amount of a good/service they provide based on how important to society they think it is.

What are disadvantages of State provision?

• Theres less of an incentive to operate efficiently due to lack of absence of the price mechanism.

• State provision may fail to respond to consumer demands, as it lacks the motive of profit to determine whats supplied.

• The opportunity cost of the state provision of a good or sevrice is that other goods cant be supplied.

• State provision may reduce a person's self-reliance

What are benefits of state provision of helath care?

• Society benefits from the positive externalities of health care

• The consumption of helath care can contribute to a helathier, happier population.

• Free provision means healtcare is available to all.

• It can reduce the number of days people take off work due to sickness, increasing productivity.

What are drawbacks from state provision of healthcare?

• Provison that's free at the poin to fdelivery can result in excess demand, leading to long waiting lists.

• The lack of a price mechanism may make hospitals and clinics less mindulf of resources.

• Limited budgets and the need to cover the whole population mean its not always possible to respond to the wants and needs of individuals

• It can reduce patients' self-reliance

How do government try to control pollution?

The government will set an optimal level of pollution and allocate permits that allow firms to emit a certain amount of pollution over period of time.

Firms may trade their permits with other firms .

What is the EU emmisions trading system?

A tradable pollution permit scheme, with permits called emission allowances. These allowances are distributed between the EU' member goverments, who in turn allocate these allowances to firms.

Firms will be fined if they exceed their allowances, bu tthey can trade allowances between themselves, so firms can buy extra allowances to cover any extra emissions.

What happens each year to the number of trade pollution permits allowed?

Each year the number of allowances available is reduced. This gives firms an incentive to lower their emissions (e.g. by investing in new technology to cut emissions).

What are emission saving schemes?

When firms in the EU emissions trading systemsinvest in trading schemes outside of the EU to offset their own emmisions. For example, a German Firm could invest in low-carbon power production in India to offset some of its emissions in Germany.

What are advantages of pollution permit schemes?

• They are a good way of trying to reduce pollution to an acceptable level, as they encourage firms to become more efficient and pollute less

• Firms with low emissions will benefit from the schemes, thyell be able to sell permits, allowing them to invest more and expand

• Governments can use any revenue, e.g. from fines to invest into other pollution reducing schemes.

• These schemes internalise the externality of pollution.

What are disadvantages of pollution permit schemes?

• The optimal pollution level can be difficult to set. If the level is set to high, firms have no incentive to lower their emissions. If the level is set too low,new firms may not be able to start up at all, or excisting firms might choose to relocate somewhere else to avoid paying the permits.

• The pollution permit scheme creates a new market, there may be market failure withing this new market.

• High levels of pollution in specfic areasmay still exist, and this would still be harmful to the environment..

• There are administrative costs involved in such schemes, to both governments and firms.

What are problems assosiated with extending property rights?

• It can be difficult for a government to extend property rights.

• Externalities can affect more than one country