Individuals, firms, markets and market failure (7136)
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A* essays on labour productivity and negative externalities
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Individuals, firms, markets and market failure (7136)
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AQA
25/25 example essay for microeconomics paper
How smoking affects labour productivity and policies to reduce this negative externality
Year 2 overlap with labour markets
Scored A* in final a level exam (77/80 in paper 1)
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Individuals, firms, markets and market failure (7136)
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Government would like to improve the health and labour productivity of the UK
population by encouraging people to stop smoking.
Using your knowledge of both conventional economic theory and behavioural economics,
assess alternative policies that the Government might adopt to try to achieve this objective
(25)
Labour productivity refers to the measure of output per worker in an economy over a period
of time. Labour productivity will be diminished if employees are ill or spending time out of
work in hospital. To have a productive labour force, negative consumption externalities such
as smoking should be minimised, this could be achieved through indirect taxation,
information campaigns and regulation on age limits.
Indirect taxation:
To help improve the UK’s labour productivity the UK government could raise taxation on
tobacco products. Smoking is a demerit good because at the point of consumption,
individuals do not take into account the external social costs such as the negative impact on
, the UK’s overall productivity, creating a loss of economic efficiency (as labelled DWL).
Therefore, individuals will consume where the MPB=MSC, resulting in overconsumption at
Q(fm) from the allocatively efficient level at Q(ae). This could be solved through indirect
taxation. For example, the UK could increase the current tobacco duty rate of 16.5% to 20%.
This rise in price will disincentivise some individuals from consuming smoking products as
the price rises from P(fm) to P(tax), becoming too expensive to consume. Therefore, causing
a fall in quantity demanded of tobacco, allowing consumption to revert to the allocatively
efficient level of Q(ae). This will result in greater economic efficiency and a removal of the
deadweight loss, as labour is likely to be more focussed on the production process and
thereby more efficient. Furthermore, as the MSC of tobacco consumption is now internalised
by the consumer, government revenue is generated, as labelled on the diagram. This could
be hypothecated and used to finance subsidies to other factors of production such as
automation of capital goods to improve the UK’s current ‘productivity puzzle’ further.
However, this economic theory may break down due to behavioural economics. As smoking
is an addictive process, demand may be price inelastic as consumers may suffer from
bounded rationality. This means that despite a rise in the cost of tobacco, consumers will
continue to consume beyond Q(ae). Arguably, this may also have regressive consequences
as individuals who consume more tobacco are lower income earners. Therefore, taxation
alone will not solve the market failure of tobacco and thereby, labour productivity may not be
improved.
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