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Economics Principle, Problem and Policy

An investigation into the economic principle of social efficiency the problem of market failutre and policy to overcome it.

Should Govt Subsidise Buses?

Q. Discuss whether govt subsidies to bus companies would be beneficial?

Subsidies involve the govt paying part of the firms cost therefore Supply curve shifts to the right and leads to an increase in demand.
Buses have positive externalities, because if people use them then there will be less pollution and congestion. Pollution has economic costs because it costs money to treat health problems resulting from it. The costs of congestion are estimated to be £27 billion in the UK, this is because there are higher costs for business and lost output when people are stuck in traffic jams. Therefore the Social Benefit of travelling by bus is greater than the private benefit.

In a free market people ignore the social benefit therefore there is under consumption
In a free market the equilibrium output will be where Demand equals supply. However social efficiency occurs where social marginal benefit equals social marginal cost. Therefore there is a case for subsidising the buses to overcome market failure. A subsidy of (Ps – P2) will shift supply to the right and increase demand to the socially efficient level

            Another argument for subsidising buses is that it is an important public service and it is important to ensure that all groups of people are able to use it, therefore the govt could subsidise cheap tickets for poor people to ensure greater equality.

 

            However the problem with subsidising buses is that giving subsidises to bus firms may encourage them to be inefficient this is because the company has less need to cut costs because it can get money from the govt. However this may not necessarily occur, it could depend on how competitive the bus industry was.

            Subsidising buses will mean the govt will have to increase taxes; this could cause disincentives in the economy, because higher taxes may reduce incentives to work. However this problem could be overcome by taxing goods with negative externalities like cars.

 

            Another problem with govt intervention is that the govt may have poor information about how much to subsidise and who to give it to. Politicians are usually worse at making economic decisions because they do not have economic pressure but political pressures.

            A more significant problem is that demand for buses may be very inelastic. Buses only go certain routes therefore it is less suitable for some people, therefore making buses cheaper may not increase demand, it may be necessary to also increase the range of bus services and make them more attractive to consumers.

            To conclude there is a good economic reason to subsidise buses but the govt will need to be careful that it gives the correct amount and that it is not wasted, furthermore to reduce congestion. It may be necessary to adopt other measures such as taxing cars.                  

 

 

COMMENTARY

 

                        To do well on this essay it is vital to

  1. Have a good understanding of market failure and externalities.
  2. Draw a suitable diagram for subsidising a positive externality
  3. Be able to discuss both sides of the argument. At least 2 or 3 disadvantages of subsidising buses is important
  4. Evaluate which points are the most important

 

A weak candidate will

    1. Talk of buses giving benefits to society without being specific about economic terms.
    2. Give only one side of the argument e.g. just write about why buses should be subsidised

 

 

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