1.4 Government intervention

Purpose of intervention with reference to market failure & using diagrams in various contexts: Indirect taxation - ad valorem

• Ad valorem tax = tax set as a percentage of the price of a good

• Increases cost of production

• supply curve pivot inwards

Purpose of intervention with reference to market failure & using diagrams in various contexts: Indirect taxation - specific

• Specific tax = a fixed charged imposed per unit of a good

• Example: alcohol & tobacco duty

• to reduce the external costs caused by consuming more of products with negative externalities

• Increases cost of production

• parallel shift inwards of supply curve

Purpose of intervention with reference to market failure & using diagrams in various contexts: Subsidies

• Encourages consumption/production of goods with positive externality

Purpose of intervention with reference to market failure & using diagrams in various contexts: Minimum price

• alcohol

• Definition: the lowest price a good is allowed to be sold at / floor price

Purpose of intervention with reference to market failure & using diagrams in various contexts: Maximum price

Rent control - impose maximum rents to make housing more affordable for low-income residents

Other methods of government intervention: trade pollution permits (definition)

• It’s an allowance of the amount of pollution firms may emit which can be bought & sold in the market

Other methods of government intervention:

• State provision of public goods

• Provision of information regulation

What is government failure

• Occurs when government intervention in the economy causes a loss in economic welfare

Causes of government failure

• distortion of price signals (max/min price & subsidies) - does not reflect true supply & demand conditions leading to overproduction/underproduction of goods

• Unintended consequences - policies aimed at addressing one problem may inadvertently create new problems/unintended consequences

• Excessive administrative costs - complex regulations in the healthcare industry can lead to high administrative costs for both providers & government agencies - limiting resources available for patients care as they have less budget to afford on these

• Information gaps - if regulators lack accurate data on pollution sources, environmental policies may fail to target the most significant pollution contributors effectively

What is indirect taxation

• Imposed on producers by the government

Definition of consumer surplus

The difference between the price a consumer is prepared to pay for a good and the market price

Definition of subsidy

• Government grant to firms to increase production & lower the price of a good