subsidy and market fail

• What is a subsidy in economics?

  Money grant to producers
• A subsidy is intended to lower the cost of production for producers.
• What type of market failures does a subsidy aim to solve?

  Under consumption and production
• Subsidies are often used to encourage positive externalities in consumption.
• A subsidy shifts the marginal private cost curve to the right.
• What is assumed about the subsidy in the diagrams provided?

  It is perfect
• In the case of positive externalities in production, the MSC equals MPC + sub.
• A subsidy can reduce both price and increase quantity in the market.
• What is the vertical distance between the two MPC curves multiplied by quantity equal to?

  Cost to the government
• If subsidies are financed by borrowing, they may lead to future tax rises.
• Opportunity costs arise when subsidies require government spending that could be used elsewhere.
• Why is it difficult for governments to set subsidies at the correct level?

  Lack of perfect information
• Over-subsidizing can lead to government failure.
• Firms may become dependent on subsidies, reducing their efficiency.
• Firms may use subsidies to increase worker salaries rather than lower prices.
• What type of demand is necessary for a subsidy to effectively increase quantity?

  Price elastic
• Subsidies for public transport may not work if demand is price inelastic.
• Price inelastic demand means consumers are less responsive to changes in price.