Practise analysing indirect taxes, subsidies, price controls, buffer stocks, direct provision and information through market diagrams, incidence and stakeholder effects.
The air transport market in India
Over the past 20 years or so, global air transport markets have become more competitive. This is especially the case in the United States (US), the European Union (EU) and, most recently, in Asia. Governments have sought to provide opportunities for new firms, invariably 'low-cost carriers' (budget airlines), to open new routes and compete with established airline operators, often in domestic markets.
The situation in India is typical but only to a certain extent. The country has two established airline operators with extensive international as well as domestic service networks. They now face increasing competition from a number of low-cost carriers who operate services within India.
Consumers have benefitted from these changes. As well as opening new routes, the increased competition has seen all airline operators offering cheaper prices. At the same time, the established airline operators have had to reduce costs to remain competitive. Also, demand has increased for leisure travel as well as business travel.
The Indian air transport market still has some restrictions imposed by the Indian government. An important restriction is the ' 5 / 20 rule'. This stipulates that Indian-owned airline operators must have a minimum number of aircraft (20) and have been in business for a minimum of 5 years, before they can operate international services.
Opponents to the 5/20 rule argue that it seriously discriminates against Indian airline operators by not allowing them to compete in a free market. They further claim that applying the rule is having a negative impact on the Indian economy. Foreign-owned airline operators, which have a 70% share of international passenger traffic to and from India, do not have to meet the 5/20 rule.
Source: Times of India, 27 February 2016 and The Mint, 25 February 2016
Fig. 1.1: Air transport - total number of domestic and international passengers carried by Indian-owned airline operators, 1971-2014
In February 2016, the Indian government increased the tax on aviation fuel from 8 % to 14 %.
Use a diagram to analyse the effects of this increase on the market for aviation fuel. Explain what would determine the incidence of this tax between the aviation fuel producers and the airline operators who buy the fuel.
In 2023, Mexico's energy policies looked increasingly out of step with those in the rest of the world. The Mexican President reversed recent reforms of Mexico's energy market. These reforms increased the role of private sector firms. He changed the balance of the mixed economy by prioritising state-owned companies and stressed that Mexico should produce its own energy rather than importing it.
The government invested in a new oil refinery and decided to keep coal-fired power stations running. It also gave state-owned electricity and oil companies priority over private sector rivals, so it was harder for private firms to obtain permits to generate electricity or to explore for oil.
Mexico has traditionally exported crude oil and imported natural gas. However, the new plan is that the oil will be used to generate the country's electricity. There has been a global shift towards energy self-sufficiency but it is unclear whether Mexico has the capacity to produce enough electricity for its 130 million people. There may also be an impact on the country's balance of trade in goods which was in deficit for nine months of 2022, as shown in Figure 1.1.
Energy is likely to become more expensive. Operating costs of the state-owned electricity producers are significantly higher than their private sector rivals. Its old and inefficient plants are expensive to maintain. These costs will be passed on to the consumer, either directly or by the government having to spend more on subsidies to keep down the price.
The environment will also suffer. Mexico will see less investment in renewable energy because of its change in energy policy. In the past, domestic and foreign firms in the private sector did much of the investing. The policy change means that Mexico is unlikely to meet its pledge to produce of its electricity from renewable sources by 2024.
The impact of the energy policy may be felt in the economy more broadly. The earlier energy reforms had helped to bring manufacturers to Mexico by making power cheaper and more reliable. Now the uncertainty is deterring investors.
The opportunity cost of Mexico's new energy policy is huge. Economists reckon that Mexico could have produced almost half its electricity from renewable sources long before its target of 2050. Multinational companies were looking at Mexico as an alternative location to other countries, but because of Mexico's change in energy policy, those companies are likely to go elsewhere.
Consider the extent to which direct provision of electricity in Mexico through state-owned companies may be advantageous to consumers.
With the help of a diagram, assess whether the potential advantages of providing a subsidy to keep down the price of electricity in Mexico will outweigh the potential disadvantages.