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Unit 2 Microeconomic(Role of government) - Coggle Diagram
Unit 2 Microeconomic(Role of government)
Total Surplus
Consumer Surplus + Producer Surplus = Total Surplus
Allocative Efficiency
The ideal combination of goods and services in a society
Allocative = Distribution
Results in the MAXIMUM possible surplus - at equilibrium (Qs=Qd)
Failure of Allocative Efficiency
Failure to reach allocative efficiency results in a welfare loss. Not producing where Qs=Qd, meaning there is a surplus lost
At price P:
CS↓ ->PS↑ ->Social surplus↓
Possible Reasons for Intervention
To earn government revenue
To support firms
To support households on low incomes
To influence the level of production
To influence the level of consumption
To correct market failure
To promote equity
Government Revenue
Taxes
The government taxes many things DIRECTLY (income) and INDIRECTLY such as expenditures (VAT, etc).
Indirect Tax - a tax not aimed directly at an collector of the tax. (VAT, Sales Tax)
Direct Tax - a tax aimed directly at an individual. (Income)
Supporting Firms
Governments like to use methods of intervention to support firms in particular industries. This can be for economic reasons, but also for political and strategic reasons.
Support Low- Income Households
Supporting struggling households in order to improve the quality of life for its citizens.
Influence levels of production/consumption
If a government desires more of a certain product or good in. the economy, the may offer a subsidy to increase supply/production.-> merit goods
Alternatively, a government may tax certain industries or products they wish to diminish such as fossil fuel companies. -> demerit goods
The government may also diminish consumption by adding indirect taxes on certain goods that have negative effects on society such as cigarettes.
Market Failure
when markets fail to allocate resources efficiently
Equity
The Government often chooses to intervene to improve the equity of income distribution.
Price Ceilings
When the government sets a maximum price of a good or service.
Typically used with common essential goods as services such as
affordable housing (rent)
low-cost food for all
Consequences of Price Ceiling
It generates a rationing problem
It promotes the creation of parallel (illegal black) markets
Shortages
It eliminates allocative efficiency and generates a welfare loss
Price Floors
When the government sets a minimum price of a good or service.
Protect producers that could be in danger (farmers)
Protect workers (minimum wage)
Consequences
Surpluses
Promotion of parallel black markets
The government needs to dispose of surplus
Allocative inefficient and generates welfare loss
Solutions
Results in large welfare loss
Government purchase of surplus
Indirect Taxes
Indirect taxes are taxes not designed to target a specific individual
Specific Tax
A fixed amount of tax per unit sold.
Percentage Tax / Ad Valoreum Tax
A fixed percentage is charged on the selling of the good
Purpose of Subsidies
Increase producer revenues
Make basic necessities more affordable
To support the growth of a particular industry
Encourage the consumption of a particular good or service
Services Provided Directly By The Government
Healthcare
Public Transport
Education
Rail/Airline Services
Energy
Command And Control
Legislation - Laws set out by legislative bodies
Regulation - To monitor or Regulate an industry
Consumer Nudges
Governments may use consumer nudges to correct issues or problems in the market. These nudges tend to be rather inexpensive and impactful.