1.4 - Government Intervention

Question 1

How are negative externalities solved

Answer 1

The government can introduce indirect taxation to prevent market failure

Question 2

Advantages of indirect tax

Answer 2

Social welfare is maximised
Raises government revenue

Question 3

Disadvantages of indirect tax

Answer 3

Difficult to target the tax
Could lead to creating black markets
Taxes are politically unpopular

Question 4

Advantages of subsidies

Answer 4

Welfare is maximised
Can have other positive impacts and encourage small businesses

Question 5

Disadvantages of subsidies

Answer 5

High opportunity cost
Difficult to target
Can cause producers to become inefficient

Question 6

What’s a maximum price

Answer 6

Price floor. A legally imposed price for a good that the suppliers cannot charge above. Set on good with positive externalities

Question 7

What’s a minimum price

Answer 7

Price ceiling. A legally imposed price at which the price cannot go below. Set on goods with negative externalities

Question 8

Advantages of maximum and minimum prices

Answer 8

Set where MSB = MSC, so allow for some consideration of externalities, so increase social welfare.
Maximum ensures goods are affordable. Minimum ensures producers get a fair price. These both reduce poverty

Question 9

Disadvantages of maximum and minimum prices

Answer 9

Distortion of price signals causes excess supply / demand
Difficult for governments to know where to set prices
Lead to black market creation

Question 10

What’s a tradable pollution permit

Answer 10

Allows the owner to pollute up to a specific amount of pollution

Question 11

Advantages of tradable pollution permits

Answer 11

Guarantee that pollution will fall
The government can raise revenue
Encourages companies to use green technology

Question 12

Disadvantages of tradable pollution permits

Answer 12

Expensive to monitor and police
Raises costs for businesses
Difficult for the government to know how many permits the government should allow

Question 13

Advantages of public goods

Answer 13

Corrects market failure
Help people have access to basic goods and bring equality

Question 14

Disadvantages of public goods

Answer 14

Expensive and represents a high opportunity cost for the government
Since the market isn’t involved, government may produce wrong combination of goods
Government may be inefficient at production

Question 15

What is provision of information

Answer 15

When there’s asymmetrical information, the government provides information to allow people to make informed decisions

Question 16

Advantage of provision of information

Answer 16

Helps consumers act rationally

Question 17

Disadvantages of provision of information

Answer 17

Can be expensive, incurring an opportunity cost
Consumers may not listen to information provided

Question 18

What are regulations

Answer 18

Governments can impose laws to ensure levels are set where MSB = MSC

Question 19

Advantages of regulations

Answer 19

Prevent exploitation of consumers and ensure they are fully informed which helps overcome market failure

Question 20

Disadvantages of regulations

Answer 20

Laws can be expensive for governments to monitor
Firms may pass on costs to consumers in the form of higher prices

Question 21

What’s government failure

Answer 21

When government intervention leads to net welfare loss and a misallocation of resources

Question 22

Causes of government failure

Answer 22

Distortion of price signals
Unintended consequences
Excessive administration costs
Information gaps

Question 23

Explain distortion of price signals - government failure

Answer 23

Government intervention may change price signals.
Maximum and minimum price leads to excess demand/supply and make it difficult to allocate resources. By government intervention, the resources may be allocated inefficiently.

Question 24

Explain unintended consequences - government failure

Answer 24

Where consumers and producers may react to new policies in unexpected ways

Question 25

Explain excessive administration costs - government failure

Answer 25

The social costs may be higher than social benefits once administration costs are taken into account. E.g. a lot of money in the NHS is spent on organisation instead of medical care

Question 26

Explain information gaps - government failure

Answer 26

Information is always going to be limited. Costs and benefit forecasts are often wrong and the government invests in a system where the costs are higher than the benefits, causing welfare loss.