The Market Mechanism, Market Failure & Government Intervention (AQA A Level Economics): Exam Questions

Extract B (lines 8–10) states, ‘many companies intentionally make it difficult to repair their products in order to increase sales. This is both economically inefficient and environmentally foolish; it imposes costs on the environment even though it may make sense for individual companies.’

Extract B: Is the world running out of sand?

Sand is in high demand. Sand accounts for up to 85% of all mining and the global depletion of sand is rapidly exceeding its natural renewal rate. Sand is mostly used in the construction industry to make concrete and asphalt. Chinese demand has risen significantly, reflecting the country's rapid pace of construction: it built 32.3 million houses and 4.5 million kilometres of road between 2011 and 2014. Sand also has industrial uses: it is used to make glass, electronics, and to help extract oil in the fracking industry. While market demand for industrial sand has tracked overall economic growth in the USA, the demand for fracking sand has been as volatile as oil prices.

Vast quantities of sand are dumped into the sea to reclaim land: Singapore, for example, has expanded its land area by over 20% since the 1960s. Much of this sand originates from Indonesia, where sand miners have completely erased over 20 islands since 2005. The Maldives and Kiribati have used sand to shore up their islands against rising sea levels. The United Nations forecasts that, by 2030, there will be over 40 ‘megacities’, home to more than 10 million inhabitants (up from 31 in 2016), which means more housing and infrastructure will need to be built. Also, sea levels will continue to rise and so sand will only become more sought after. But why is there a shortage when sand seems so abundant? Desert sand is too smooth, and so cannot be used for most commercial purposes. Australian sand was shipped to a faraway desert to build Dubai’s Burj Khalifa tower, made possible by cheaper transportation. Most countries have rules in place about where, and how much, sand can be mined. However, surging demand has sparked a lucrative illegal trade in many rapidly developing countries which is damaging the environment, causing pollution and harming local biodiversity.

Critics of the world’s five most valuable multinational technology firms (Google, Amazon, Apple, Facebook and Microsoft) argue that there ought to be greater government intervention to protect consumers’ interests. Several European governments are considering imposing new taxes on the revenues of such firms, rather than their profits.

For a long time, supermarkets and other commercial firms have understood the benefits of behavioural economic concepts such as choice architecture and framing. The public sector has been slow off the mark, but at last governments are now taking advantage of the opportunities provided by nudging.

‘Each time the Government imposes a minimum price or wage, the result is almost always excess supply. What matters is the extent to which this is a problem.’

In December 2018, the Competition and Markets Authority (CMA) announced a range of policies to prevent firms charging existing customers more than new customers. Firms supplying financial services, mobile phones and broadband are no longer allowed to discriminate against loyal customers renewing their contracts

According to Public Health England, poor air quality is the largest environmental risk to public health in the UK. In particular, diesel cars are estimated to be responsible for 40 000 premature deaths each year. In response, the Government announced in 2017 that it would ban the sale of new petrol and diesel cars by 2040

According to Public Health England, poor air quality is the largest environmental risk to public health in the UK. In particular, diesel cars are estimated to be responsible for 40 000 premature deaths each year. In response, the Government announced in 2017 that it would ban the sale of new petrol and diesel cars by 2040

Attempts by governments to equalise incomes are well-intentioned but counter-productive. They destroy incentives for people to lift themselves out of poverty

In 2018, the UK Government will impose a new tax on sugary drinks, aimed at tackling obesity. Behavioural economists believe that taxation alone is unlikely to be very effective in reducing consumption. By 2050, obesity is predicted to affect 60% of adult men, 50% of adult women and 25% of children. It is associated with a range of health problems, including type 2 diabetes, cardiovascular disease and cancer.

In 2018, the UK government will impose a new tax on sugary drinks, aimed at tackling obesity. Behavioural economists believe that taxation alone is unlikely to be very effective in reducing consumption. By 2050, obesity is predicted to affect 60% of adult men, 50% of adult women and 25% of children. It is associated with a range of health problems, including type 2 diabetes, cardiovascular disease and cancer.

Extract C: Policies to solve the shortage of student accommodation

The causes of the shortage of student accommodation are varied and some, but not all, result from market failure. Rising rents ought to incentivise more supply, but that has not worked recently. Planning restrictions have limited the number of new building projects. Relaxing such rules might help, but local residents complain that high numbers of students can alter the nature of their communities. Subsidies to the builders of student accommodation could increase supply, but with a likely delay of many years.

Some students have been offered financial incentives to defer their entry by a year or to live at home. To reduce further the demand for student accommodation, some people have urged the government to restrict foreign student numbers. However, the 22% of students who are foreign pay 44% of all tuition fees and so subsidise costs for UK students.

Policies to tackle high rents could include rent subsidies from the government or an increase in the grants and loans available to students. In Scotland, university students have benefited from controls which limit rent increases to a fixed percentage each year. The National Union of Students is calling for nationwide rent controls. A maximum rent can help keep the cost of student accommodation lower than it would otherwise be, but risks some landlords withdrawing from the market. Some argue that high-quality student accommodation is a merit good and ought to be provided by the government at a fair rent.

In the UK, 64% of the population are considered to be overweight. Many policies have focused on promoting active lifestyles, whilst taxes have been introduced on sugary drinks and alcohol. There has also been regulation of advertising aimed at young children. Attention has recently turned to the use of behavioural economics techniques to change diets.

Britain’s energy market was plunged into chaos in 2021 as surges in wholesale electricity and gas prices exposed the weaknesses of many companies. Since deregulation in 2016, 49 energy supply companies have collapsed, with customers taken on by larger firms. This market chaos has led to renewed calls for the government to nationalise the energy industry.

Extract B: The electric vehicle revolution

Sales of electric vehicles (EVs) in Europe have jumped from 198 000 in 2018 to an expected 1.17 million in 2021. They are an alternative to petrol and diesel vehicles, which create damaging emissions through air pollution and contribute to climate change. EVs still only make up about 1% of all cars on the road, but global sales of EVs are forecast to reach 10.7 million by 2025 and then 28.2 million by 2030. Carmakers have announced a total of $330 billion of investment into electric and battery technology over the next five years. In fact, several manufacturers have begun to phase out petrol and diesel cars altogether.

Why is this happening now? Regulations are becoming tighter. Ambitious plans to expand the use of electric vehicles are one of the most obvious ways to meet emissions targets set by national governments. The UK has already announced plans to ban the sale of petrol and diesel cars by 2035. Meeting this target will require government spending to install the charging points needed to convince consumers to switch to electric vehicles.

Another reason for the EV revolution is the improved choice of such vehicles. There are around 330 EV models on sale today, compared with just 86 five years ago. While many are still more expensive than petrol vehicles, they boast substantially lower running costs, even more so as global petrol prices rise. Also, many governments still offer generous financial incentives to encourage people to purchase EVs.

Driving cars of all fuel types creates environmental problems, traffic congestion and road traffic accidents. Critics have suggested that, instead of governments offering subsidies and tax exemptions for electric vehicles, all vehicle owners should be forced to pay the full costs of their driving. This would incentivise people to consider using public transport, cycling or walking.

Source: News reports, 2021

Some believe that government intervention in markets is undesirable because market forces promote creativity, innovation and efficiency. Others believe that competition policy is needed to prevent firms abusing their market power.

The government has promised that everyone will be able to access superfast broadband by 2025. As more people have switched to studying and working remotely, good Internet connections have become more important. Low-income households have difficult choices to make between high-speed Internet and essential items such as food, heating and clothing.

The government has promised that everyone will be able to access superfast broadband by 2025. As more people have switched to studying and working remotely, good Internet connections have become more important. Low-income households have difficult choices to make between high-speed Internet and essential items such as food, heating and clothing.

Markets fail for a variety of reasons and governments can play an important role in reducing the inefficiencies associated with such failures. However, Milton Friedman once suggested that “When government, in pursuit of good intentions, tries to rearrange the economy...the costs come in inefficiency, lack of motivation, and loss of freedom. Government should be a referee, not an active player.”

Markets fail for a variety of reasons and governments can play an important role in reducing the inefficiencies associated with such failures. However, Milton Friedman once suggested that “When government, in pursuit of good intentions, tries to rearrange the economy...the costs come in inefficiency, lack of motivation, and loss of freedom. Government should be a referee, not an active player.”