3.6.2 The impact of government intervention

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    a) The impact of government intervention on:
    Prices
    Governments can prevent monopolies charging consumers excessive prices because this might result in a loss of allocative efficiency
    Can make services from utility companies (water, gas and electricity) more affordable – especially beneficial to low and fixed income households
    Encourages firm to be more efficient
    • So they can lower their costs and increase profit margins
    If corporation tax is high, firms might pass extra cost to consumers resulting in higher prices, rather than losing their own profits
    Profit
    If governments impose strict price caps, investment could be limited, since amount of profit a firm makes is restricted
    But recent fall in UK corporation tax from 21% to 20% helps firms keep more profits
    But size of the fall can be evaluated, is 1% a significant fall?

    Efficiency
    Diagram shows where public sector and private sector firms operate

    But by operating in a competitive environment, firms have an incentive to become efficient
    • Because they are forced to lower their average costs in order to profit maximise • Makes private sector firms more productively efficient
    Private sector firms have to produce goods and services consumers want to keep earning profits – might increase allocative efficiency
    Quality
    Governments can ensure firms are meeting minimum targets – ensures firms focus on increasing social welfare
    • E.g. firms in gas and electricity markets are regulated to ensure vulnerable groups like the elderly, are warm during colder months
    Firms which profit maximise might compromise on quality
    But if private sector firms have expertise and knowledge which government might not have, then they might be able to produce goods and services of higher quality
    Choice
    If governments regulate monopolies and encourage start-up and growth of SMEs, consumer choice in the market widens, since there are more firms competing
    A stringent price ceiling might force some suppliers out of the market – reduces quantity supplied and narrows choice for consumers
    If governments can reduce the price of a good or service – could allow those on low and fixed incomes to access goods and services they previously couldn’t afford to

    b) Limits to government intervention:
    Regulatory capture
    Risk of regulatory capture
    When regulators start acting in the interest of the company, due to impartial information, rather than in consumer interest
    This information disadvantage is a problem for regulators
    Asymmetric information
    The problem of asymmetric information makes it hard to determine what level a price cap should be imposed at
    Hard to determine government policies when intervening where there is market failure
    • Extent to which market fails involves a value judgment • E.g. hard to decide what cost of pollution to society is • Different individuals will put different value on it – depends on their own experiences with pollution (e.g. how polluted their hometown is)
    Without sufficient information, governments could make poor decisions – could lead to a waste of scarce resources

     

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