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Flashcards · 9708 · A Level Topic 8

Government microeconomic intervention (A Level) flashcards

20 cards on A Level Topic 8, subtopics 8.1 to 8.3. Pick a subtopic or study them all.

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8.1 Government policies to achieve efficient resource allocation and correct market failure

Specific tax versus ad valorem tax: effect on the supply curve
A specific tax is a fixed amount per unit, so supply shifts up in parallel. An ad valorem tax is a percentage of price, so supply pivots: the tax per unit rises with the price (10% is 5 at a price of 50 but 8 at 80).
Qd = 360 − 6P, Qs = −60 + 4P. A specific tax of 10 is imposed. Find the burdens and the welfare loss.
Before: P = 42, Q = 108. After: P = 46, Q = 84; sellers keep 36. Consumer burden 4 × 84 = 336; producer burden 6 × 84 = 504; revenue 840. Welfare loss = ½ × 10 × 24 = 120. Demand is more elastic, so producers bear more.
Regulating a natural monopoly: demand P = 100 − Q, MC = 10, fixed cost 800. Compare no regulation, an AC price cap and an MC price cap.
Unregulated: MR = MC gives Q = 45, P = 55, profit 1,225. Cap at AC: 100 − Q = 10 + 800/Q gives Q = 80, P = 20, normal profit. Cap at MC: P = 10, Q = 90, a loss of 800 that needs a subsidy.
Pollution permits (cap and trade): how they work
Government sets a cap and issues tradable permits equal to it. Firms with low abatement costs cut emissions and sell permits; high-cost firms buy them. Trading continues until every firm's marginal abatement cost equals the permit price, so the cap is met at lowest total cost.
Property rights and open access resources
A property right is legally enforceable ownership of or control over a resource. Under open access no user bears the cost imposed on others, so the resource is over-used. Giving one owner the right makes them bear the cost of overuse. Limits: hard to define for moving resources, costly to enforce.
Nudge and choice architecture
A nudge changes how options are presented (defaults, order, framing, effort needed) to steer behaviour without banning options or relying mainly on price. Example: opt-out pension enrolment raising take-up from 40% to 85%, a rise of 45 percentage points.
Government failure
Intervention that leads to a misallocation of resources, so the net welfare gain is smaller than it could be, becomes a net welfare loss, or creates new problems. Causes: imperfect information, administrative cost, political pressures and lobbying, unintended consequences, time lags.

8.2 Equity and redistribution of income and wealth

Equity versus equality; horizontal versus vertical equity
Equality is the same outcome or treatment and can be measured. Equity is fairness, a normative judgement. Horizontal equity: equals are treated equally. Vertical equity: unequals are treated differently in a way judged fair.
Absolute poverty and relative poverty
Absolute: income below a fixed level needed for basic needs. Relative: income low compared with others, often below 50% or 60% of median income. If all incomes rise by the same percentage, absolute poverty falls but relative poverty is unchanged.
Poverty trap and the effective marginal tax rate
Earning more brings little gain because benefits are withdrawn and tax rises. EMTR = tax rate + benefit withdrawal rate. Tax 25% and benefit cut by 50 per 100 earned gives an EMTR of 75%: of an extra 200 earned, only 50 is kept.
Negative income tax: guaranteed income G = 4,800 and taper t = 50%. Find the break-even income and net income on earnings of 6,000.
Payment = G − tY. Break-even = G ÷ t = 9,600. At 6,000: payment = 4,800 − 3,000 = 1,800, so net income = 7,800. Above 9,600 the person pays tax.
Universal basic income: one argument for and two against
For: simple, no stigma, removes the poverty trap and gives security. Against: high cost and higher taxes; may reduce hours worked through the income effect; may be inflationary; some lose if it replaces larger targeted benefits.
Is there a trade-off between equity and efficiency?
Possibly: high marginal tax rates and generous benefits weaken incentives, administration absorbs resources, and redistribution is not a Pareto improvement. But spending on education and health raises productivity, severe inequality can harm growth, and disincentives may be small. It depends on how people respond.

8.3 Labour market forces and government intervention

Marginal revenue product (MRP) and the hiring rule
MRP = marginal physical product × marginal revenue (× price if the price is fixed): the extra revenue from one more worker. A wage-taking firm hires until MRP = wage. Example: MPP 15 loads at 6 each gives MRP 90, so hire at a wage of 80 but not 95.
Why does the demand curve for labour slope down, and what shifts it right?
Diminishing returns cut MPP as more workers share fixed capital, and MR may fall as more is sold. It shifts right when product demand or price rises, productivity rises, or substitute factors become dearer. A wage change is a movement along the curve.
Non-wage factors that shift the supply of labour to an occupation
Job features (hours, safety, satisfaction, benefits), entry costs (training length and cost, qualifications), pay and conditions in alternative jobs, the size of the pool of workers (population, migration, retirement age), mobility, and state benefits.
Labour demand L = 720 − 20W, supply L = 40W. A union negotiates a wage of 15. Find the effect.
Equilibrium: W = 12, L = 480. At 15: employment = 420, supply = 600, so excess supply of 180. Employment −12.5% for a wage +25%: elasticity −0.5 (inelastic), so the wage bill rises from 5,760 to 6,300.
Monopsony: why does a single employer pay less and hire fewer than a competitive market?
Hiring one more worker raises the wage for all, so the marginal cost of labour is above the supply (average cost) curve. It hires where MC of labour = MRP and pays the lower wage on the supply curve. E.g. 120 workers at 10 against a competitive 180 at 13.
Can a minimum wage raise employment?
In a monopsony, yes: a minimum wage above the monopsony wage and up to the competitive wage makes the marginal cost of labour flat, so employment rises, peaking at the competitive wage. In a competitive market a binding minimum wage reduces employment along the demand curve.
Transfer earnings and economic rent
Transfer earnings: the minimum payment needed to keep a factor in its present use (its opportunity cost). Economic rent: payment above transfer earnings. A worker earning 36 whose next best job pays 28 has transfer earnings 28 and rent 8. More inelastic supply means a larger share of rent.

Revise Government microeconomic intervention further