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Government Interventions to Solve Market Failure - Coggle Diagram
Government Interventions to Solve Market Failure
Setting a maximum price (price ceiling)
Governments sometimes set a maximum price in a market that suppliers cannot exceed
To be effective the maximum price must be set below the equilibrium price (EP)
Maximum prices are often imposed to protect low income consumers
Setting a minimum price (price floor)
Sometimes a minimum price is set in a market. The good cannot be sold for less than the minimum price.
Minimum prices encourage production and give producers (or workers) a guaranteed income. That is why a minimum price is sometimes known as a "guaranteed price" - it is the minimum price a producer will receive for her product
As the minimum price is above the equilibrium price (EP), supply will be greater than demand and there will be a surplus of the good in the market
Taxes
Sometimes governments impose expenditure taxes (VAT) in order to raise revenue or discourage consumption
When a good is taxed, the producers receive the market price less the tax which will have the effect of reducing supply
The tax acts like and increase in costs - supply falls and the equilibrium price rises
Subsidies
When the government places a subsidy on a good, the producers receive the market price plus the subsidy.
This will have the effect of increasing supply
The subsidy reduces the producer's costs so supply is increased and price falls
Government grants and subsidies encourage production and keep prices low
Quotas
Governments sometimes place a quota, which puts a limit on the amount of a good which producers can supply to a market
Once the quota has been reached the supply is fixed - perfectly price inelastic
If the quota is placed below the equilibrium quantity, the equilibrium price will rise.
Privatisation
Privatisation refers to all schemes which seek to extend the private sector. It takes various forms:
Denationalisation
The sale of public enterprises and other assets (e.g. the sale of council houses, land etc. has raised over £30bn) to the private sector
This can take the form of a stock market flotation (shares offered to the general public on the stock market), a management buyout (existing managers and workers buy the organisation), or a private sale (all the shares are sold to a single buyer)
Deregulation
The opening up of State monopolies to competition from other suppliers
Contracting Out
The tendering by private companies for publicly provided (paid by the government) activities e.g. cleaning in hospital
Objectives of Privatisation
Improved Efficiency
Increased competition in both the goods and capital markets
Greater freedom and motivation given to managers
Reduced government interference
More realistic industrial relations
More Efficient Allocation of Resources
Rewards are more closely linked to results
Losses are no longer underwritten
The abolition of state subsidies enables price to better reflect demand
Reduced Public Sector Net Cast Requirement (PSNCR)
Revenue from asset sales helps keep taxes low and prevents the 'crowding out' of private investment
Wider Share Ownership
Key firms and industry can be owned by society as a whole and among the workers of the privatised industries in particular (Worker participation)
Disadvantages of Privatisation
Often creates private monopolies
The 'public interest' may not be protected e.g. vital services such as water
If the industry is 'broken up' there will be fewer economies of scale
Most of the shares are bought by large institutions rather than private institutions
There is a problem to privatising a 'natural monopoly'
A natural monopoly occurs when one firm (because of the existence of economies of scale) can produce the output more efficiently that two or more competing firms in areas like gas or electricity
In this situation the state monopoly when privatised is usually turned into a private monopoly which, in order to prevent the abuse of market power, is subject to some form of state regulation