What this lesson teaches
I can describe taxes, subsidies, price controls and quotas as ways a government intervenes in a market.
Syllabus 8843, 2.1.3(a). Government Intervention in Markets: Governments may intervene in markets in the form of taxes, subsidies, price controls (maximum and minimum prices) and quantity controls (quotas)
Make a guess
The government caps the number of taxi licences at 15,000. Which tool is this?
- A price ceiling, because it keeps taxi fares down.
- A tax, because drivers must pay for a licence.
- A quota, because it limits the quantity allowed.
Show the answer
A quota, because it limits the quantity allowed.
A quota sets the most that can be sold or operated. The cap on licences limits how many taxis can run.
Governments change markets with taxes, subsidies, price controls and quotas.
When a market gives an outcome the government does not want, it can step in. In this chapter we look at four tools.
A tax adds a charge on each unit sold, which raises costs. A subsidy pays producers for each unit, which lowers costs.
A price control sets a legal price. A maximum price (price ceiling) is set below equilibrium to keep things affordable. A minimum price (price floor) is set above equilibrium to support producers or workers.
A quota limits the quantity that can be sold. Singapore's COE system is a quota: it caps the number of new vehicles that can be registered.
- Tax
- A charge per unit; shifts supply up.
- Subsidy
- A payment per unit; shifts supply down.
- Price controls
- Maximum price below equilibrium; minimum price above it.
- Quota
- A limit on quantity.
| Tool | What it changes | Usual aim |
|---|---|---|
| Tax | Adds a cost per unit | Cut consumption or raise revenue |
| Subsidy | Pays producers per unit | Raise output or lower prices |
| Maximum price | Caps the price | Affordability |
| Minimum price | Sets a price floor | Support producer incomes |
| Quota | Caps quantity | Limit use of a scarce resource |
Worked example: Three ways to make meals cheaper
A town council wants hawker meals to be more affordable. It considers three options.
- A maximum price of $4 a meal: a price ceiling. Stalls may not charge more.
- Paying stalls $2 for every meal sold: a subsidy. It lowers their costs.
- Capping stalls at 40 meals a day: a quota. This limits quantity and would not make meals cheaper.
Watch out for this
Any policy that makes a good cheaper is a subsidy.
A price ceiling also lowers the price, but no money is paid to producers. A subsidy is a payment per unit.
Check your understanding
The government pays bus operators 50 cents for every trip they run on quiet routes. What kind of intervention is this?
- A price ceiling, since it holds fares down by law.
- A quota, since it fixes the number of trips run.
- A subsidy, since it pays producers for each unit.
Show the answer
A subsidy, since it pays producers for each unit.
Right. A payment per trip lowers operators' costs, so they run more trips.