econ 1.4.1

governments need to intervene in the free markets otherwise merit goods will not be produced as companies are incentivised by profits so will produce demerit goods

methods of government intervention to correct market failure:

trade pollution permits

subsidies

regulation

provision of public goods

quotas

provision of information

indirect tax

indirect tax - a tax charged on expenditure → imposed on producers by the govt. which is passed on to the consumer

hypothecate tax - when the tax is dedicated to a specific purpose e.g. road tax

advantages

disadvantages

reduces purchase of demerit elastic goods

reduces production of these goods/services, and produce something else

reduces negative externalities

internalises negative externalities

govt. could reinvest extra tax rev into social welfare, subsidies etc.

unpopular political move

indirect taxes are regressive (less you eaen, more you pay proportional to income)

could giveway to hidden economy (black markets etc)

could not discourage inelastic goods

difficult to measure level of tax require → lack of info

subsidies correct market failure by

increasing supply of merit goods

increase demand as price decreases → more aaffordable

help to solve positive externalities

negatives of granting subsidies

lack of info → wrong decisions made → misallocation of resources

need to raise taxes to fund subsidies

opportunity cost of providing subsidy

negative externalities

difficult to determine size of subsidy as info gaps

firms will be dependent on subsidy → moral hazards

extent of subsidy being too little

creates complacency → no reason to improve

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prices

minimum price - lowest possible price that can be legally charged

maximum price - the highest possible price that can legally be charged

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trade pollution permits - permits given by the govt. which allow firms to pollute the stated amount. These can be traded between firms as well

disadvantages

increase in cost for business may be passed onto consumers if inelastic

difficult to determine extent of pollution permits as info gaps → market failure & unintended consequences

expensive to monitor and control