1.4.1 Government Intervention in Markets

• Governments intervene in the market to correct market failure.
• Maximum price occurs when a government sets a legal limit on the price of a good or service with the aim of reducing prices below the market equilibrium price.
• The government might set a maximum price where the consumption or production of a good is encouraged so that the good does not become too expensive to produce or consume.
• Maximum prices must be set below the free market price, otherwise they would be ineffective.

  
• Maximum prices prevent monopolies exploiting consumers by charging high prices.
• Maximum prices could control the market price, but this could lead to market failure if they misjudge where the optimum price should be.
• Benefits of Maximum Prices

  1. Could lead to welfare gains for consumers.
  2. Could increase a firms efficiency
• A minimum price sets the lowest level that a good or service can be sold for.
• The government might set a minimum price whee the consumption or production of a good is to be discouraged, to ensure the good never falls below a certain price.
• Minimum prices have to be set above the free market price otherwise they would be ineffective.

  
• Tradable pollution permits are where the government gIves firms a permit which allows them to produce up to a certain amount of carbon each year, allowing them to sell excess permits or buy more from other firms.
• Advantages of Pollution Permits

  1. Benefits the environment by encouraging green production methods.
  2. Ensures firms pay for the damage they are creating.
  3. Raises government and greener firms revenue.
• Disadvantages of Pollution Permits

  1. Firms could relocate to where they can pollute without limits.
  2. Higher production costs could be passed onto the consumer.
  3. Competition could be restricted within the market by the barrier to entry.
  4. Expensive and difficult to measure and monitor.
• By providing information, governments can ensure there is no information failure so consumers and firms can make informed decisions.
• The government could implement laws to ban consumers from consuming a good, making firms that fail to follow these regulation face a fine, acting as a disincentive to break the rule.