1. Policies to Correct Externalities★★☆☆☆⏱ 6 min

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Governments use a range of microeconomic policies to correct negative and positive externalities, addressing the market failure that occurs when social costs/benefits differ from private costs/benefits. The five core policies you need to know are taxation, subsidies, fines, regulation, and pollution permits.

• Taxation: Indirect taxes on producers of negative externalities (e.g. carbon tax) raise production costs, reduce supply, and lower equilibrium output of harmful goods.

• Subsidies: Payments to producers of positive externalities (e.g. subsidies for renewable energy) lower production costs, increase supply, and raise equilibrium output of beneficial goods.

• Fines: Financial penalties imposed on firms that break pollution or production rules, increasing the cost of overproducing negative externalities.

• Regulation: Legal rules that limit harmful activity (e.g. mandatory emission limits for factories) or require positive activity (e.g. mandatory vaccination for school children).

Exam tip:

When explaining how tax or subsidy policies work, always reference the shift in the supply curve and resulting change in equilibrium quantity, even if you are not asked to draw the diagram.

2. Evaluating Externality Policy Options★★★☆☆⏱ 7 min

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For exam evaluate/assess questions, you will need to weigh the advantages and disadvantages of each externality policy to form a supported conclusion. The table below summarises the key pros and cons for each policy you need to know.

Exam tip:

When answering 8-mark evaluate questions, always include at least two advantages, two disadvantages, and a clear conclusion that explains which factor is most important in context.

3. Government Regulation of Competition★★☆☆☆⏱ 5 min

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Governments regulate competition in markets to prevent abuse of monopoly power, which can lead to higher prices, lower quality goods, and reduced choice for consumers. The core goals of competition regulation for your exam are outlined below.

• Promote competition: Governments remove legal barriers to entry for new firms (e.g. removing limits on new internet service providers entering a market) to increase choice and lower prices for consumers.

• Limit monopoly power: Regulators cap prices charged by monopoly firms (e.g. water or electricity providers) to prevent them from overcharging customers.

• Protect consumer interests: Rules prevent firms from using misleading advertising, selling unsafe products, or imposing unfair contract terms on customers.

• Control mergers and takeovers: Regulators block mergers that would reduce competition in a market (e.g. blocking a merger between two of the largest supermarket chains) to avoid higher prices for consumers.

Exam tip:

Competition regulation questions often appear in data response questions, so make sure to link your answer directly to the context provided.

4. Labour Market Intervention: Minimum Wage★★★★☆⏱ 7 min

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The minimum wage is the most common form of government labour market intervention for this syllabus. You need to be able to explain its purpose, draw diagrams to show its impact, and evaluate its advantages and disadvantages.

The required minimum wage diagram uses a standard labour market model: vertical axis = wage rate (£ per hour), horizontal axis = quantity of labour (number of workers). Demand for labour (DL) comes from firms, supply of labour (SL) comes from workers. The free market equilibrium is at $W_e$ (equilibrium wage) and $Q_e$ (equilibrium quantity of labour). A minimum wage ($W_{min}$) is set above $W_e$ to raise wages for low-paid workers.

At $W_{min}$, the quantity of labour supplied by workers ($Q_s$) is higher than equilibrium, as more people want to work at the higher wage. The quantity of labour demanded by firms ($Q_d$) is lower than equilibrium, as firms cannot afford to employ as many workers at the higher wage. The difference between $Q_s$ and $Q_d$ is excess supply of labour, also known as unemployment. If the minimum wage is increased further above $W_e$, the gap between $Q_s$ and $Q_d$ widens, increasing unemployment.

Key advantages of a minimum wage include: raising incomes for low-paid workers, reducing poverty, and incentivising workers to take jobs, reducing unemployment from voluntary inactivity. Key disadvantages include: increased unemployment for low-skilled workers, higher costs for firms which may be passed onto consumers via higher prices, and increased informal employment as firms pay workers below the minimum wage illegally.

Exam tip:

When drawing minimum wage diagrams, always make sure the minimum wage line is clearly above the equilibrium wage, and label the excess supply (unemployment) gap explicitly for full marks.