LS22-LS23 Booklet

• regulation is a rule or law enacted by the government that must be followed by economic agents. It is used to encourage a change in behaviour
• two types of regulation are command and control
• command regulation:

  • bans
  • limits
  • caps
  • compulsory actions
• control regulation:

  • enforcement
  • punishment
• negative externalities is a type of market failure
• a smoking ban in public places makes it inconvenient for smokers to smoke which reduces consumption
• forms of regulation used to tackle external costs of consuming alcohol:

  • limits on intake
  • bans on drink driving
  • minimum prices
  • age restrictions
• command regulation relies on effective control so there isn’t a lack of understanding
• a cap and trade scheme operates by governments allocating pollution permits to polluting firms. Firms can sell these permits to other firms and gain revenue off it. This revenue can be spent on the firms becoming more environmentally friendly
• the signalling function helps allocate scarce resources because it signals to producers on how to change production levels to align with market conditions (such as change in demand)
• the role of the state in a mixed economy is trying to maximise social welfare, to provide public goods, to allocate resources and produce merit goods
• disadvantages of maximum prices:

  • shortages are created because goods and services are distributed on a first come first serve basis which is unfair
  • black markets may emerge
  • costs of enforcing maximum prices contains an opportunity cost
  • it is difficult to to set the right level due to an information gap
  • producer surplus falls
• Why may essential goods be distributed on a first come first serve basis when maximum prices are set:

  Essential goods are a necessity so demand will be inelastic. A maximum price wont affect demand as much. Demand will continue to exceed supply, causing a shortage.
• why might a black markets emerge if a max price is introduced:

  • shortages are created
  • black markets will set their prices above equilibrium level
  • to achieve profit maximisation
• introducing a max price carries an opportunity cost because there is a cost of enforcement which could have been spent on other things such as administration costs
• max prices affect housing industry as max prices cause producer surplus to fall. Therefore, landlords have less money to invest and maintain their property
• firms have the incentive of profit maximising which encourages firms to increase their production when there are changes in demand
• disadvantages of emissions trading schemes:

  • information gaps causes too many permits being issues, decreasing incentive for firms to reduce pollution
  • information gaps causes too less permits being issued so there is reduced international competitiveness. This leads to a decline in factors of aggregate demand, making it a macro issue
  • producers may pass on the added costs on to consumers through higher prices, making price inelastic goods more expensive
• disadvantages of emissions trading scheme:

  • price may be volatile (unpredictable) which creates uncertainty
  • If permits are given for free, it is a missed opportunity to raise government revenue
  • Costs of operating the scheme - enforcement costs
• Rival firms in countries that don’t use a cap and trade scheme are given an advantage as opposed to firms that do because they can produce more as they aren’t penalised for high pollution
• poor quality information can cause a cap and trade scheme to be ineffective in reducing emissions because information gaps can lead to limits being set too high or too low.
• If there is a low limit on a cap and trade scheme, there is less incentive to sell permits which makes the scheme ineffective
• What is the economic rationale for the government building lighthouses?

  • it is a public good, so free rider problem will occur
  • because ships coming into shore use and benefit of the lighthouse without needing to pay for it
• economies of scale - average cost per unit of production decreases as production increases.
• similarities between carbon tax and cap and trade scheme:

  • both aim to reduce negative externalities, pollution.
• differences between carbon tax and cap and trade scheme:

  • scheme allows permits to be traded whereas taxes have to be paid straight away, can’t be traded.
  • tax paid by everyone
  • scheme depends on how polluting the firm is whereas carbon tax is fixed
• positive XED - substitutes: tea and coffee
• disadvantages of minimum price:

  • exceed supply because producers are unable to sell goods
  • higher prices for consumers, consumer surplus decreases
  • excess supply shows that there was a waste of resources which could have been used more productively elsewhere
• in a excess supply diagram, Q3-Q2 = excess supply
• excess supply is a disadvantage of minimum prices because prices will increase so demand increases. Government has increased costs because they have to buy up excess supply so that producers don’t leave the market
• consumers loose out due to minimum prices because consumer surplus decreases
• indirect tax will impact consumers more because firms can pass on the increased cost from tax onto consumers. For goods that are necessities, consumption isn’t affected because the good has inelastic demand. So, consumers are forced to pay higher prices
• Government failure is when government intervention designed to correct market failure results in a less efficient allocation of resources
• causes of government failure:

  • unintended consequences
  • distortion of price signals
• glut: excess supply

  shortage: excess demand
• unintended consequences: worse outcomes than before government intervention was implemented
• distortion of price signals: max/min prices lead to shortages/gluts. subsidies may lower prices and increase consumption of goods with external costs
• shortages and gluts causes price to not naturally adhere to supply and demand
• regulation is a type of government intervention
• advantages of ULEZ:

  • reduces incentive of having petrol car, so increased demand for electric