Question 21M.1.HL.TZ2.1b
| Date | May 2021 | Marks available | [Maximum mark: 15] | Reference code | 21M.1.HL.TZ2.1b |
| Level | HL | Paper | 1 | Time zone | TZ2 |
| Command term | Evaluate | Question number | b | Adapted from | N/A |
Evaluate the effectiveness of price floors in achieving a reduction in the consumption of demerit goods.
[15]
Marks should be allocated according to the paper 1 markbands for May 2013 forward, part B.
Answers may include:
- definitions of price floor, demerit goods
- diagram showing the imposition of a price floor, resulting in increased price and decreased quantity demanded (consumed)
- explanation that the imposition of a price floor on the market for a demerit good would increase the price and reduce the quantity demanded (and consumed) of the good, moving consumption of the good closer to the socially optimal quantity
- examples of cases where price floors have been imposed to discourage the consumption of demerit goods
- synthesis or evaluation.
Evaluation may include:
- Consideration of the limitations of the policy: unlike indirect taxes, price floors do not increase government revenues; may lead to surpluses and attempts by the producers to sell the surpluses at a price below the legally set minimum (in parallel markets); may increase the producers’ revenues and profits (if the demand for the demerit good is inelastic).
- Consideration of the strengths of the policy: the threat of a price floor may cause the suppliers to modify the product to reduce the negative externalities; price floors may be used in cases where the local government is not legally allowed to impose indirect taxes or ban the use of the demerit good. A price floor allows government to set the price, a tax might be absorbed by abnormal profit-making producers.
- Consideration of the strengths and limitations of alternative policies such as indirect taxes and government regulations (restrictions).
Examiners should be aware that candidates may take a different approach which, if appropriate, should be rewarded.
A surprisingly large number of candidates confused maximum and minimum prices. Many candidates also ignored the question's specific reference to demerit goods. Significant numbers of responses identified incorrect community welfare losses, where it was presumed the government would buy the surplus of a demerit good resulting from a minimum price. Thus, they were considering the consequences for welfare, of a price support scheme usually targeted at farmers. Responses that were able to provide real-word examples in support of an analysis that examined the relative merits of price floors scored well. It was probably easier in this case to consider how alternative policies might be arguably better, such as indirect taxes.
