Econ1025
Assignment 2
Question
1.
The reason why the government might want to intervene in the diary
market is because there is a market failure in the system. The definition of a market failure refers to a situation in which
the market on its own fails to allocate resources efficiently, in such
situation; the government will need to intervene to rectify the problem by
coming up with public policy solutions. There are generally four types of
goods; common resources, public goods, private goods as well as club goods, we
will be focusing on both common resources and public goods. Both public goods
and common resources goods are non-excludable, this simply means that once the
goods are produced, nobody will be able to prevented from using the goods.
Secondly, common resources are rivalrous whereas public goods are not. The
meaning of rivalrous means that if one party uses the goods; it diminishes
other people’s use for it. For this case, diary farm is considered as common
resources.
Example of a negative externality
in production graph
In the world of economics, externalities exist
when the production or consumption of a good has positive or negative side
effects on third parties, which are not accounted for in the price of the good.
Externalities are the uncompensated impact of one person’s actions on the
wellbeing of a bystander. Positive externalities make bystanders better off
whereas negative externalities make bystanders worse off. For this case, it is
production externality as third parties such as the animals in the process of
production are not being treated properly and environmental concerns of the
green house emitting more pollution, which will affect the health of citizens
living in the state.
In this scenario, it is a case of
negative externality on the production sector as the animal welfare and
environmental concerns are being jeopardized. Advocacy groups are being formed
to urge the government to intervene by placing pressure on them, they will have
a significant impact on the government as they have the time and money to
empathize these animals that are being mistreated thus making them influential group
in this case. Australia is known for its clean environment so with green house
effect the tourism industry will be affected thus lessening migrations
affecting overall economic impact.
Question
2.
The
way that businesses are conducted is in a way that they only consider the
private costs and benefits. It is not socially optimal, as they do not take
into account the externalities that come with it.
Example
of a tax incidence on sellers graph
Example
of a tax on buyers graph
Tax provides a corrective measure to
internalize externalities; it is an amount equaling to its external cost. The
pros of a tax policy initiative is that it solves the externalities issue
because it provides the government with the resources required for intervention
as well as acting as a corrective measure to internalize externalities. This
also gives a rise to tax revenue for the government and the funds can be used
to benefit society like building facilities etc. It also forces the consumers
to switch to substitute products as they might find the price to be costly thus
reducing the demand for it. The cons of taxation will be that if the government
imposes a tax that is higher than the externalities, the output will be less
than socially optimal, the cost of intervention might also exceeds its
benefits. Government failure occurs when intervention fails to rectify or
exacerbates market failure. Tax must be equivalent to externalities.
Question 3.
Apart from imposing in tax in hopes to
resolve the environmental concerns and animal welfare, government may look into
other strategies and methods to address these concerns such as implementing
subsidies and price control.
Government can provide incentives such
as providing soymilk vouchers as a subsidy method, encouraging people to switch
their preferences thus reducing the product demand from diary farms. The
advantage of this method will be to lower the supply and demand from the farms
therefore mitigating the externalities from producing such goods. Products such
as the soymilk and almond milk can be used as substitutes for the diary milk
products hence causing benefiting the companies manufacturing those products.
The demand for these substitutes products will gradually increase and they will
be able to use this opportunity to generate more revenue so as to expand their
businesses. In addition, it also creates more job opportunities for the people
in Australia. However, subsidies can cause a toll on the government funding, it
may lead to a lot of budget issues and this will slow down other plans for the
future such as building of facilities. It also requires time and manpower to
have come up with a plan in terms of funding that they have set aside for the
subsidies. This will then impact the revenue for diary products causing a
plunge in it and it may affect certain businesses, putting them at risk and
employees may be retrenched. It is also hard to measure the positive
externalities, as quantifying the extent of the subsidies’ success is
subjective.
For price control, the price ceiling
for substitute goods can be imposed below the price of diary products.
Similarly, the difference in price may cause people to switch products due to
price sensitivity. The advantage of price control is rather similar as it
mitigates the externalities from producing diary products and it does not take
a toll on the government’s resources, as they do not profit from enforcing it. Despite
all these, the disadvantages will be that many substitute companies will be
affected as a result and suffer a less greater profit than they can actually
benefit from. The odds of the quality of the products being reduced will also
be higher as they might be looking for ways to cut cost in order to generate
more revenue. The companies will try to cut down their cost even further by
retrenching some of the employees thus causing an increase in unemployment
rate. In order to enforce these implemented price controls measures, constant
checking of the prices on the shelves is required.
Question
4.
As
private individuals, we are able to address these concerns in the absence of
government intervention by internalizing externalities via contracting. This
means that private parties will negotiate a payment from one another to achieve
the socially optimum outcome. This is also known as the Coase Theorem, whereby
the proposition that if private parties can bargain without cost over the
allocation of resources, they will be able to solve the problem of
externalities on their own. Another solution would be self-regulations whereby
firms voluntarily agree to monitor an industry code of conduct such The Body
Shop. The company follows a code of conduct; in this case it is their ethical
trading program. They ensure that their employees are treated fairly and
equally, and are responsible for the products that they sell and ensure that
their suppliers understand their commitment to the code of conduct, otherwise
known as fair trade. In this case, diary farms are the suppliers hence we encourage
people not to trade with diary farms that execute unethical behaviors such as
mistreating of animals as well as their method in handing the pollution caused
by them. Despite this, the private solutions are not likely to be effective due
to most economic players are selfish and do not spare a thought for
externalities, their main focus is on private costs, benefits and ways to
maximize their profit. This is because trading with unethical code of conduct
will be highly certain to maximize their profits. And taking into
considerations of these externalities, it is considered as an expense to them,
which will result in the loss of revenue.
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