8. Government microeconomic intervention

Choose in this order: diagnose the exact failure; state Qm versus Q*; show how the instrument shifts MPC/MSC, MPB/MSB, demand, supply or the allowed quantity; then compare the new welfare gain with administration, enforcement, budget opportunity cost, elasticity, time, distribution and unintended effects. Compare at least one feasible alternative rather than claiming one tool is always best.

For factory emissions, a tax creates a continuous incentive and revenue but gives uncertain pollution quantity; a permit cap gives a more predictable total and rewards low-cost abatement but needs a workable trading market. A strict standard or ban may control the physical outcome more directly when damage is severe, at the cost of flexibility.

Consequences include a larger deadweight welfare loss, shortages or surpluses, black markets, excess output, reduced innovation/investment, unemployment, regressive burdens, budget deficits/opportunity cost, environmental displacement and loss of trust or compliance. One policy can improve its target yet create a larger side effect elsewhere.

A new highway intended to reduce congestion may induce drivers to leave public transport, increasing traffic and journey time. A smoking tax plus ban may reduce passive smoking but perform weakly when demand is inelastic and enforcement is costly, while shifting litter outdoors.

Use a counterfactual test: identify the original market failure and welfare loss; estimate the policy's correction; subtract administration, opportunity and unintended costs; compare the result with no action and feasible alternatives. An unpopular policy is not automatically a failure if net social welfare still rises.

A policy can increase equality of income while reducing perceived equity, or improve equity through targeted support without making incomes equal. The criterion must be stated rather than assumed.

Giving every learner the same textbook is equal; providing accessible materials to a learner with a visual impairment may be more equitable while using different resources.

Redistribution may reduce inequality but weaken incentives or create administrative costs; an efficient market outcome may leave people without a socially acceptable share. The size of the trade-off is empirical, not a universal rule.

A progressive tax can finance education that raises opportunity and productivity, potentially improving both equity and efficiency; a badly designed tax may reduce work or investment more than the gain.

Absolute measures track purchasing power against a threshold that may be updated; relative measures reflect participation and inequality within a society. A person can move above an absolute line while remaining relatively poor if others’ incomes rise faster.

If a household’s real income doubles but the median income triples, absolute hardship may fall while its relative position worsens.

An extra $100 of wages may create$20 extra tax, $65 of withdrawn housing/other benefits and$20 of childcare/travel cost. Disposable income changes by $100-$20-$65-$20=-$5: the worker is worse off despite earning more.

Means testing concentrates support on low incomes but creates benefit-withdrawal ranges. If these overlap with income tax and work costs, the effective marginal deduction rate becomes very high. The person may reject extra hours or a better-paid job even though gross pay rises.

Progressive direct tax and transfers redistribute current disposable income. Free or subsidised health, education, training, childcare and transport can improve opportunity and productivity over time; minimum wages or stronger worker bargaining can raise earnings but may affect employment or prices. Indirect taxes are often regressive unless essentials are protected or revenue is recycled.

Judge the policy by poverty reduction, post-tax income distribution, access/opportunity, take-up, work and investment incentives, administrative accuracy, fiscal opportunity cost, time and incidence. A lower Gini coefficient indicates greater equality, but whether the resulting distribution is equitable remains a social judgment.

A practical package can combine a broad income floor with progressive tax, targeted extra support for disability/housing costs and supply-side access to health, education and employment. This can reduce gaps without making every income equal, but overlapping withdrawal rules must be checked for a poverty trap.

Demand tends to rise when product demand or price increases, worker productivity improves, or complementary capital becomes more effective. It falls when the wage exceeds the value of the worker’s marginal contribution.

If an extra worker produces 10 units and each sells for $5, marginal revenue product is$50 before considering other changes. A wage below that may make hiring worthwhile; a wage above it may not.

If output rises faster than total labour earnings, unit labour cost falls. If product demand rises, an employer may accept a higher negotiated wage without reducing employment because labour demand has shifted right.

State the changed variable before drawing. A wage rise usually reduces quantity of labour demanded; higher product demand can shift the whole curve right even if the wage is unchanged.

A café hiring fewer workers after the hourly wage rises is a movement. A festival that increases demand for meals shifts the café’s labour demand right.

As more labour works with fixed inputs, diminishing marginal returns usually reduce MPP and therefore MRP. At each employment level, MRP is the firm's marginal benefit from labour, so the downward MRP schedule is its demand curve for labour. Higher product price/demand or productivity shifts it right; a lower product value shifts it left.

For one worker, a higher wage has a substitution effect: leisure becomes more expensive, encouraging more work. It also has an income effect: the worker can reach a target income with fewer hours, encouraging leisure. At high wages, if the income effect becomes stronger, hours supplied fall as the wage rises and the individual supply curve bends backward.

Market supply usually slopes upward because a higher wage attracts additional people and hours, even if some individuals reduce hours. It is less elastic when scarce qualifications, long training or low mobility make entry slow, and more elastic when close alternative occupations and mobile workers are available.

Separate an individual’s response from a market-wide change. Better childcare or immigration can shift supply right; a wage rise changes quantity supplied along the existing curve unless it also changes another determinant.

A higher wage may attract more nurses along the curve. A new training programme increases the number qualified and can shift the market supply curve right.

The wage reflects the value of the marginal worker to firms and the opportunity cost of that worker’s time. A wage above equilibrium creates excess supply; a wage below it creates excess demand, assuming adjustment is possible.

If the market wage is set above the intersection, more people want jobs than firms want to hire, creating unemployment. A wage below the intersection leaves vacancies or unmet labour demand.

Suppose 10 cleaners earn $8 each, so total labour cost is$80. To hire an 11th, the employer must pay all 11 cleaners $8.50, making total cost$93.50. The marginal cost of the 11th cleaner is $93.50 −$80 = $13.50, not$8.50.

A moderate minimum wage above the monopsony wage can make labour available at the fixed legal wage over a range. MCL then equals that wage across the range, and employment can rise toward the competitive level while wages rise. If the floor is set too high, labour demanded falls and unemployment can increase. A union can similarly counterbalance employer power, depending on bargaining strength and productivity effects.

Evaluate the size and direction using the initial market structure, how far the wage is changed, demand and supply elasticities, substitution with capital, productivity, prices/profits, enforcement, coverage, time and possible non-wage rewards. A maximum wage below equilibrium may also cause shortages or payment through perks.

Compare like with like: hourly rates, overtime and annual earnings are different measures; real wages measure purchasing power, while net advantage includes non-money conditions. An occupation with pleasant conditions may pay less as compensation is unnecessary, whereas a hazardous job may pay more even with similar measured productivity.

MRP theory is useful but not a complete measurement rule. Individual productivity may be difficult to identify in teams or public services; executives may influence pay-setting, monopsony can underpay workers, and discrimination can persist. Differences in wage therefore need evidence about both labour markets, not one worker characteristic.

If an engineer receives $100,000 but the minimum needed to keep her in that job is$60,000, transfer earnings are $60,000 and economic rent is$40,000. Use the true reservation payment for the present use: it can reflect pay and non-pay preferences, so it need not equal the highest advertised alternative salary.

In a labour-market diagram at equilibrium wage W and employment L, each unit's point on the supply curve is its transfer earning. Total transfer earnings are the area under the supply curve from 0 to L. Total economic rent is the area above the supply curve but below the horizontal wage line, up to L. Their sum is the wage bill W × L.

A rise in demand usually raises wage and economic rent, especially when supply is inelastic. Supply often becomes more elastic in the long run as training, migration or occupational change becomes possible, so part of what was short-run economic rent can become long-run transfer earnings. A minimum wage can raise the rent of workers who remain employed but may reduce employment in a competitive market.