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Section 5 - Government intervention - Coggle Diagram
Section 5 - Government intervention
Indirect taxation
Taxation
Ad valorem tax - taxes that are charged as a proportion of the price of a good
Specific causes a parallel shift of the supply curve
Ad valoren causes a non parallel shift, the biggest impact is on the higher price goods
Specific - fixed amount that's charged per unit of a particular good, no matter what the price of that good is
Tax on expenditure
Increase costs for producers, so producers supply less
Market price increases, demand contracts
Solution
If tax equals the external cost of each unit, the supply curves becomes the socially optimum equilibrium
Internalises the externality
Negative externalities
Governments ofen put extra indirect taxes on goods that have negative externalities
Aims to internalise the externality, which makes the producer cover the cost of its externalities
Taxes make revenues for the government whcih can be used to offset the effects of the externalities
Landfill tax
Authorities that dispose of waste at landfill are charged the environmental tax
Reflects the full social cost of using landfill
Taxing should encourage recycling which will reduce the negative externalitites
Pros
Cost of the negative externalities is internalised
Demand for the good is reduced
Even if demand isn't reduced, the government gets increased revenue which can be used to offset the externalitites
Cons
Hard to put a monetary value on the cost of the negative externality
Increases the cost of production, reducing international competitiveness
Firms may choose to relocate - this removes their contributions to the economy
Subsidies
Advantages
External benefit is internalised
Payment from the government to lower pducer's costs of production
Can change preferences - making merit goods cheaper increases the demand for them
Disadvantages
Opportunity cost to the government
Potential higher taxes
Firms become inefficient if they rely on the subsidy
Maximum price
Is needed where the consumption of production of a good is to be encouraged
Prevents the good from becoming too expensive
Have to be set below the free market price
Pros
Could led to welfare gains for consumers
Prevent monopolies exploiting consumers
Cons
Governments might misjudge where the optimim market price is
Could reduce a firm's profit and lead to lower investment in the long run
Minimum price
Is needed where the consuption/ production of a good is to be discouraged
Reduce negative externalities
Have to be set above the market price, otherwise they'd be ineffective
Pros
Increases the standard of living, and provide an incentive for people to work
Producers are guaranteed a minimum income
Cons
Consumers pay higher prices
Resources used to produce excess supply could be used elsewhere
Government roles
Provision of public goods
Could provide goods which are under provided in the free market, like eduction and healthcare
Makes merit goods more accessible, which might increase their consumption and yield positive externalities
Can be expensive for governments which causes an opportunity cost of spending their revenue
Provision of information
Governmens can ensure there is no information failure, so consumers/ firms can make informed decisions
Eg - make it illegal for second hand car dealers to not revel the entire history of a car
Regulation
Can use laws to ban consumers from consuming a good
Make it illegal not to do something
Eg - minimum school leaving age
Firms which fail to follow regulations could face heavy fines, which act as a disincentive to break the rule
Could raise costs to firms, which might pass on this cost to consumers