CIE AS SAMPLE ESSAYS
3.2 Methods and effects of government intervention in markets
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9708/22/M/J/24
9708/21/M/J/24
With the help of an example each, explain the difference between a merit goods and a demerit goods and consider whether a subsidy given to a merit good will always be effective in increasing consumption. [8]
A merit good is considered beneficial to society but tends to be underprovided or underconsumed due to information failure or a lack of awareness of its benefits. For example, education and healthcare are merit goods because many individuals may not fully understand their health benefits, leading to lower consumption than is socially optimal.
A demerit good, on the other hand, is considered harmful to society but is often overprovided or overconsumed, again due to information failure or a lack of awareness of the negative effects. For instance, cigarettes are a demerit good as consumers might underestimate the health risks associated with smoking, leading to higher consumption levels than is socially desirable.
A subsidy is a financial incentive provided by the government to encourage the consumption of a particular good by reducing its price. A subsidy on higher education for example, may encourage poorer households to consume more merit goods as it makes these goods more affordable by reducing their price. This can be particularly important when unaffordability is a primary reason for underconsumption.
However, the problem of information failure may persist even with the introduction of a subsidy. If consumers remain unaware of the benefits of the merit good, they might not increase their consumption despite the reduced price. In the case of higher education, people may not understand the long-term benefits of higher college qualification. For example, they may undervalue future benefits like higher earnings and better job prospects. As such a subsidy on such services might not significantly boost their intake.
Whether a subsidy will always be effective in increasing the consumption of a merit good differs in the short run and long run. In the short run, a subsidy can be effective in increasing the consumption of a merit good as it directly reduces the price, making it more accessible to consumers. However, in the long run, a subsidy might become less effective and potentially unsustainable. Long-term reliance on subsidies can distort market signals and reduce incentives for educational institutions to improve efficiency or innovate. For example, if higher education receives prolonged subsidies, universities might become reliant on these funds instead of finding ways to optimize costs or attract private investment. Therefore, while subsidies can address immediate issues, their long-term impact depends on the sustainability of the government’s financial resources and whether the education sector can eventually support itself without such assistance.
Assess whether the improved provision of information is likely to be the best method to reduce the consumption of demerit goods[12].
Improved provision of information refers to efforts made by the government or other institutions to inform consumers about the harmful effects of consuming demerit goods. Demerit goods, such as cigarettes, alcohol, and sugary foods, have negative externalities that consumers often underestimate or ignore, leading to overconsumption.
By providing accurate information about the long-term health risks, social costs, or environmental impacts of these goods, it is expected that consumers will make more informed choices, resulting in a reduction in demand for such products. For example, campaigns that highlight the risks of smoking or excessive alcohol consumption may lead to increased awareness of health risks such as cancer or liver disease. As a result, some consumers may decide to reduce their intake, leading to a leftward shift in the demand curve for these goods, which in turn results in lower consumption.
Moreover, improved information can help consumers to internalize the negative effects of their consumption choices, effectively reducing demand. For instance, warning labels on sugary drinks can make individuals more aware of the risks of obesity and diabetes, encouraging them to opt for healthier alternatives.
Habitual consumption plays a major role in the continued use of demerit goods. Even when consumers are aware of the risks, breaking a habit, such as smoking or excessive drinking, can be difficult due to the addictive nature of these substances. Additionally, consumers do not always behave rationally. For instance, young adults might continue to drink alcohol excessively despite knowing its risks due to social gatherings and peer influence.
Imposing minimum prices might be considered in reducing the consumption of demerit goods as well. This can set a floor price for goods like alcohol, making it more expensive for consumers to purchase them in large quantities. Thus, potentially leading to a reduction in overall alcohol consumption. This, in turn, can lead to fewer alcohol-related health problems, such as liver disease and alcohol poisoning.
Determining the right minimum price is a critical challenge for policymakers. If the price is set too low, it might not effectively reduce consumption among those who pose the greatest risk. Conversely, if it is set too high, it could lead to significant backlash from consumers and producers, who may view it as an overly aggressive intervention.
Minimum pricing operates directly through the market mechanism to achieve its objectives. Unlike provision of information it does not require significant government spending. This market-based approach means that the costs of adjusting consumption patterns are borne by the consumers and producers, rather than being subsidized through taxpayer money. As a result, minimum pricing can be a more cost-effective method for governments, especially when resources are limited.
While improved provision of information is a valuable tool, its effectiveness depends heavily on the context and the target audience. For some consumers, particularly those who are well-educated or not yet addicted, information may be sufficient to change behavior. However, for habitual users or those heavily influenced by social pressures, information alone may be insufficient to bring about a substantial reduction in consumption.
Overall, while improved provision of information plays an important role in reducing the consumption of demerit goods, it is not necessarily the most effective method on its own. The limitations of information, such as habitual behavior and irrationality, mean that it is often best used as part of a broader strategy.