Role of government intervention in the market

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Role of Government Intervention in the MarketBy: Safeer ali

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Regulatory actions taken by a government in order to affect or interfere with decisions made by individuals, groups, or organizations regarding social and economic matters.

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Reasons for government intervention in the market: I. Provide information and assure information flows

II. Combat externalities.

III. Provide public goods

IV. Control noncompetitive behavior

V. Change income distribution.

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Reasons for government intervention in the market: 1. InformationSome examples of government policies to promote the dissemination of information: Education and extension. Public supported media and information delivery. Price assembly and distribution by government. Labeling requirement. Truth-in-advertising policies.

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Reasons for government intervention in the market:

2. Externalities Externalities are a loss or gain in the welfare of one party resulting from an activity of another party, without there being any compensation for the losing party. Externalities are an important consideration in cost-benefit analysis.There are four types of externalities:Negative ExternalitiesPositive ExternalitiesProduction ExternalitiesConsumption Externalities

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Reasons for government intervention in the market:

I. Negative externality A negative externality is a cost that is suffered by a third party as a result

of an economic transaction. In a transaction, the producer and consumer are the first and second parties, and third parties include any individual, organization, property owner, or resource that is indirectly affected

price

output0MSB

MSC

P

Q

MPC

P1

Q1

External Cost

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Reasons for government intervention in the market:

II. A positive externality is a benefit that is enjoyed by a third-party as a result of an economic transaction. Third-parties include any individual, organization, property owner, or resource that is indirectly affected

cost & benefit

Output0

MSC

MPB

p

Q

MSB

Q1

Welfare loss

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Reasons for government intervention in the market: III. Production Externality Costs of production that must ultimately be paid by someone other

than the producer of a good or service. Production externalities are usually unintended and can have economic, social and environmental side effects.

IV. Consumption Externality This occurs when consuming a good causes either a positive or

negative externality to a third party.

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Reasons for government intervention in the market:

3. Public Goods Public goods can be consumed concurrently by more than one

individual and are free to access. Examples include: Knowledge from education and public research National security International trade agreements Infrastructure, such as roads, bridges, etc. Environmental amenities, such as clean air, nice scenery

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Reasons for government intervention in the market: 4. Noncompetitive Behavior There are many forms of noncompetitive behavior.

Examples of the more extreme forms include: Monopoly: One agent controls supply of a good. Monophony: One agent controls demand for a good

(unions). Middleman: One agent buys the product from

suppliers to sell to demanders.Other forms of noncompetitive behavior include cartels,

oligopolies, and monopolistic competition. Policies used to control noncompetitive behavior include anti-trust legislation and regulation of natural monopolies (e.g., public utilities).

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Reasons for government intervention in the market:

5. Distribution Governments change the

distribution of income and/or wealth through government transfer policies such as:

Income Taxes and Inheritance Taxes, Social Security, Medicare, Medicaid, and AFDC.

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Tools of GOVT intervention in the Market:

1. Taxes

2. Subsidy

A tax (from the Latin taxo; "rate") is a financial charge or other levy imposed upon a taxpayer (an individual or legal entity) by a state or the functional equivalent of a state to fund various public expenditures.

A subsidy is a form of financial aid or support extended to an economic sector (or institution, business, or individual) generally with the aim of promoting economic and social policy

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Using Taxes to Correct Market Distortion:

Cost & benefit

Quantity0

Dp

MC=S

Q1

MSC

Q2Social optimum

External cost

Optimum tax = MSC ̶̶ MC

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Using Subsidies To Correct Market Distortion:

Cost & benefit

Quantity0

p D

MSC

Q2

MC=S

Q1

External benefit

Social optimum

MC

Optimum subsidy= MC ̶ MSC

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