Methods of Government Intervention to Correct Distortions to Individual Markets

Methods of Government Intervention to Correct Distortions to Individual Markets

1. Pollution Permits

   • POLLUTION PERMIT= a permit sold to firms by the government, allowing them to pollute up to a certain limit
   • A method using the market to address the problem, rather than through regulation
   • The permits can be traded, creating an incentive for firms to be relatively 'clean so that if they don't use up their full allocation of permits they can sell any remaining allocation to other less 'clean' firms
     • This provides firms with an incentive to reduce their negative externalities and consider external costs
   • System must be enforced by factory inspectors and government must decide the level of fines sufficient to penalise firms and deter further pollution beyond the permitted level

2. State provision

   • This is where the government directly provides goods and services to consumers, using money from taxation.
   • e.g. the government pays private sector firms to operate prisons and maintain our road network
   • The main state-owned businesses in the UK is Network Rail, strategically publicised after WW2

3. Regulation

   • Pass laws
     • e.g. ban of smoking in public places
     • e.g. prohibiting the sale of cigarettes to under-18s
     • Make it illegal to do certain things, this should control demand and supply
     • e.g. employment laws (to do with minimum wage)
   • Regulators
     • Government appointed regulators exist who can impose price controls in most of the main utilities like gas and electricity (Ofgem), water (Ofwat), communications (Ofcom) and others
     • Introduced in Margaret Thatcher's time in parliament (1980s) when firms were re-privatised after being in the public sector after WW2
     • oversee firms to ensure they're doing the right thing

4. Financial Intervention

   • Indirect Taxation
     • INDIRECT TAX= a tax on spending
     • Can be used to raise the price of demerit goods and products that generate negative externalities
       • This will reduce quantity demanded to a socially optimal level
         • Imposed on producers (suppliers) by the government
           • Examples~ excise duties (on cigarettes, alcohol and fuel) and VAT
     • effects supply (leftward shift when applied)
     • Opposite to a direct tax (placed on incomes)
     • When demand is elastic, most is paid by the producer
     • When demand is inelastic, most is paid by the consumer
     • e.g. a minimum price per unit of alcohol at 50p was requested in Scotland in 2012
       • Should ration demand
   • Subsidies
     • Will lower the price of merit goods to consumers
       • e.g. EMA allowances to students in further education to reduce the private costs of education
         • e.g. subsidies to companies employing workers on the New Deal programme
           • Designed to boost consumption and output of products with positive externalities
     • effect supply (rightward shift when applied)

5. Price Intervention

   • Price Controls
     • Maximum prices
       • 'price ceiling'
       • Suppliers cannot exceed this price
         • It's an attempt to prevent the market price from rising above a certain level
       • Only have an effect if set below the equilibrium (below the free market price)
       • e.g. when shortage of essential foodstuffs threatens large rises in the free market price
       • e.g. rent controls still in place in Manhattan in the USA
     • Minimum prices
       • 'price floor'
       • Only have an effect if set above the equilibrium (above the free market price)
       • Suppliers cannot go below this price
       • e.g. national minimum wage, first imposed in the UK in 1999
         • Intervention into the labour market designed to increase the pay of lower-paid workers and therefore influence the distribution of income in society
     • The government can set legally imposed maximum or minimum prices on goods and services
     • Involves a normative judgement on behalf of the government about what the price should be
   • Buffer Stocks
     • Governments may intervene when markets suffer from considerable volatility in the free market price
       • They'll try to manipulate the free market price by the use of buffer stock schemes
     • e.g. often used in agricultural and commodity markets as they're notorious for huge price instability due to unpredictable weather and relatively inelastic demand and supply curves
     • The method...
       • Select a price to keep to (the average long-term equilibrium price)
         • Use a buffer stock; in years of a bumper (good) harvest, store some stock away so that in years of poor harvest more stock can be released, the government will buy up excess supply (stock) so the income of farmers stays constant)
           • this should avoid the price effects of fluctuating supply

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