Government

3 microeconomic
intervention
Ideas for answers to Progress
Questions
1 The advantages include the fact that the price of essential foods can be made
more affordable, the price of rent for property can also be controlled and
transportation fares can be controlled. The disadvantages include the creation of
excess demand and the possibility of a queue, leading to some form of rationing,
the possibility that this may encourage bribery and corruption and the creation
of a black market where the maximum price controls do not operate.
2 The answer should start with a summary of a country’s tax system. This
is likely to be a combination of direct and indirect taxes. Next the relative
advantages and disadvantages of direct and indirect taxes should be
considered. The answer should then contain a summary of the advantages of
a flat tax system and consider whether only having a flat tax system would be
beneficial or not, i.e. if progressive and regressive taxes no longer existed.
3 An indirect tax, such as a sales tax, will have the effect of shifting the supply
curve to the left, leading to an increase in price and a decrease in quantity. A
subsidy will have the effect of shifting the supply curve to the right, leading to
a decrease in price and an increase in quantity. The extent of changes to price
and quantity in a market will depend on the price elasticity of demand and
the price elasticity of supply for a product.

Ideas for answers to Case Study

Questions
South Africa is planning to ban all alcohol
advertising
1 One line of argument is that a ban on alcohol advertising would be likely to
have an impact on the demand for the product. There are many potential
influences on the tastes and preferences of consumers and one of these is the
influence of advertising. Producers of alcohol spend a lot of money each year
to make consumers aware of the existence of different brands of alcohol.
On the other hand, however, it could be that a ban on alcohol advertising
would be unlikely to have an impact on the demand for the product. Alcohol
consumption is very addictive and many people will consume alcohol out of
habit, uninfluenced by advertising campaigns.

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Electricity subsidies in Pakistan
1 The provision of electricity subsidies by a government has the advantage that
a subsidy could be used by a producer to keep down the price of electricity,
making it more affordable for consumers.
Such subsidies, however, do have possible disadvantages. One of these is
the cost to a government of providing such subsidies and there is also an
opportunity cost element involved, i.e. the money used to finance subsidies
cannot be used for alternative forms of expenditure in an economy. There is
also the possibility that the supplier might use the subsidy to increase profit
rather than to reduce price. Also demand may be encouraged, leading to
excess demand. This has, to some extent, happened in Pakistan, leading to
frequent power cuts, known as load-shedding.

Unemployment benefits in the USA

1 Unemployment benefit is an example of a transfer payment paid to people
who are out of work. The advantage of such a payment is that it helps the
person, for up to six months in this case, while they are out of work. The
disadvantage of such a payment is that it is expensive for a government. There
is also an element of opportunity cost in that the money used to finance these
payments cannot be used for other purposes.

Mineral resources in Namibia and South Africa

1 If mining companies contribute so much to a country’s output, employment
and export earnings, as in the case of Namibia, there is a strong case for
bringing them under state ownership so that the wealth from the resources
can benefit all of the people in an economy.
The argument against this, however, is that this may lead to less efficient
production. In the case of South Africa, the government has decided against
bringing the firms under state ownership, but has instead decided to tax them
heavily.

Joint venture in Mongolia

1 The argument for a joint venture is that the private sector company retains
a great deal of control of an enterprise, but has financial support from the
government to support it. The argument against a joint venture is that the
private company might have been able to raise the necessary finance itself and
so the money put into the project by a government could have been used for
other purposes, such as education and health care.

Ideas for answers to Exam Style

Questions
1 The answer should:
uuExplain the use of indirect taxes
uuUse a diagram to show the effect of an indirect tax
uuExplain the effect on price and quantity in a market: higher price and
lower quantity

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 uuExplain that the effect of the indirect tax is that the external cost is
internalised through the price system
uuExplain that the new supply curve would represent the social marginal cost
uuExplain that the advantage is that the negative externality, e.g. pollution, is
reduced
uuExplain that the disadvantage is that the negative externality is not
eliminated.
2 The answer should:
uuExplain that direct government provision, e.g. through nationalisation,
can allow for the benefits of economies of scale, leading to lower costs and
prices
uuExplain that a wasteful duplication of resources can be avoided
uuExplain that it is easier to control negative externalities and to promote
positive externalities
uuIdentify that it prevents monopoly power being held by a private firm;
discuss the idea of a natural monopoly in the state sector.
3 Advantages:
uuSubsidies will keep down the prices of a product such as milk
uuThis product is regarded as important in many economies.
Disadvantages:
uuThe subsidy will lead to a reduction in costs but not necessarily in prices
uuThe subsidy may have the effect of discouraging a producer from
becoming as efficient as they would have needed to be without the subsidy
uuThe money to finance the subsidy could have been spent on other things,
i.e. there is an opportunity cost involved.
4 The answer should include discussion of the following points:
uuA maximum price prevents prices rising too high, putting some products
outside of the reach of certain consumers
uuA minimum price control can help certain producers, e.g. farmers
uuAn indirect tax can be used to reduce the extent of negative externalities
in an economy
uuProgressive taxation, such as through an income tax, can help to
redistribute income in an economy
uuSubsidies can be used to keep down the price of certain important
products in an economy
uuTransfer payments can be used to help those people who are less well-off
in an economy
uuNationalisation means that a government can take control of an
important economic activity, maintaining employment.
5 The answer should include discussion of:
uuMinimum prices
uuSubsidies

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 uuJoint ventures
uuPrice stabilisation, e.g. buffer stock schemes.
6 Advantages:
uuBenefit from lower costs and prices
uuDuplication of resources can be avoided
uuEasier to regulate/control negative externalities
uuNatural monopoly in the state sector.
Disadvantages:
uuMay not be as efficient as private sector
uuLack of competition may make industry less innovative
uuSome decisions may be taken for political rather than economic reasons
uuEven a state-owned enterprise could abuse its monopoly position.
7 The answer is A. A minimum price will be above the equilibrium price in a
free market.
8 The answer is C. An income tax will usually be an example of a progressive tax.

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