Price Controls & Direct Provision (Cambridge International A-Level Economics)

Exam board Cambridge International · A-LevelUpdated 2026-03-30

State provision of goods and services

State provision

Merit goods and **public goods are under-provided in a free market, causing a market failure
Public goods are** beneficial for society and are not provided by private firms due to the free rider problem
- They are usually provided free at the point of consumption, but are paid for through general taxation
- Examples include roads, parks, lighthouses, national defence
Merit goods are beneficial to society but consumers cannot always access them as they are priced out of the market (e.g. private education or healthcare)
To solve the market failure, governments can provide these goods and services

The advantages and disadvantages of state provision

Advantages	Disadvantages
- Essential goods and services are usually provided free at the point of consumption - These goods and services are accessible to everyone, regardless of income - These usually provide both private and external benefits to society	- Paid for through general taxation - There is an opportunity cost associated with their provision - Products which are free may result in excess demand and long waiting times, e.g. procedures at public hospitals or lengthy waits to see a GP

Case Study Context

Access to healthcare in Indonesia has been uneven, with many low-income and rural populations unable to afford private services. Healthcare generates positive externalities, but the market under-provided it as firms focused on private benefits, leading to under-provision (Qe < Qopt)

Action taken

Expansion of the Jaminan Kesehatan Nasional (JKN) scheme

Government-funded universal health insurance

Subsidised or free access for low-income households

Increased state support for healthcare provision

Outcome

Coverage has expanded to over 80% of the population, improving access and moving provision closer to the socially optimal level. Preventative care and affordability have improved.

However, the scheme faces funding pressures and capacity issues, raising concerns about long-term sustainability and potential government failure

Maximum prices

Price ceilings (maximum prices)

A price ceiling is a maximum price set by the government. Sellers cannot legally sell the good or service at a higher price
The price ceiling is set below the existing equilibrium market price
Governments will often use price ceilings to help consumers if the market price is too high, especially for essential goods and services
- This may increase consumption of merit goods, helping to generate positive externalities (external benefits)
- It may also improve equity by making essential goods more affordable for low-income consumers
- Sometimes they are used for long periods of time, e.g., rent controls to keep rents lower in housing rental markets
- Other times, they are short-term solutions aimed at limiting unusual price increases, e.g., petrol

Impact of a price ceiling

Graph showing supply and demand curves. Price (£) on the y-axis, quantity on the x-axis. Excess demand area between Qs and Qd at price Pmax.

The price ceiling (Pmax) sits below the free market price (Pe) and creates a condition of excess demand (shortage)

Diagram analysis

The initial market equilibrium is at P_eQ_e
A price ceiling is imposed at P_max below the equilibrium level
- The lower price reduces the incentive to supply and there is a contraction in quantity supplied (QS) from Q_e→ Q_s
- The lower price increases the incentive to consume and there is an extension in quantity demanded (QD) from Q_e → Q_d
This creates a condition of excess demand (shortage) equal to Q_sQ_d
- The shortage may lead to non-price rationing, such as queues, waiting lists or favouritism
- It may also encourage the development of black markets
The aim of this policy is to promote equity in the market for essential goods and services and it attempts to solve market failure caused by income inequality

Evaluating the use of price ceilings

Advantages	Disadvantages
- Some consumers benefit as they purchase at lower prices. For these consumers, their consumer surplus increases - Price ceilings can stabilise markets in the short-term during periods of intense disruption, e.g. Covid supplies at the start of the pandemic	- Some consumers are unable to purchase due to the shortage - Producers lose out as the price is below what they would usually receive: their producer surplus falls - The unmet demand usually encourages the creation of illegal markets and exploitation of consumers - Maximum prices distort market forces and therefore can result in an inefficient allocation of scarce resources - e.g. price ceilings of housing rentals in the property market create a shortage - When used in necessity markets, Governments may be forced to intervene further by supplying the good/service themselves in order to meet the excess demand

Advantages

Disadvantages

- Some consumers benefit as they purchase at lower prices. For these consumers, their consumer surplus increases
- Price ceilings can stabilise markets in the short-term during periods of intense disruption, e.g. Covid supplies at the start of the pandemic

- Some consumers are unable to purchase due to the shortage
- Producers lose out as the price is below what they would usually receive: their producer surplus falls
- The unmet demand usually encourages the creation of illegal markets and exploitation of consumers
- Maximum prices distort market forces and therefore can result in an inefficient allocation of scarce resources

- e.g. price ceilings of housing rentals in the property market create a shortage

- When used in necessity markets, Governments may be forced to intervene further by supplying the good/service themselves in order to meet the excess demand

Minimum prices

Price floors (minimum prices)

A price floor (minimum price) is set by the government above the existing free market equilibrium price and sellers cannot legally sell the good/service at a lower price
Governments will often use price floors to help producers or to decrease consumption of a demerit good
- By reducing consumption of demerit goods, price floors can help to reduce negative externalities (external costs) and move output closer to the socially optimal level
  - In Wales and Scotland, governments have introduced a minimum price of alcohol at 50 pence per unit
Minimum prices are also used in the labour market to protect workers from wage exploitation. These are called minimum wages

Impact of a price floor

Graph showing excess supply with demand and supply curves intersecting at equilibrium price. Price above equilibrium causes excess supply.

Price floor (Pmin) is set above the free market price (Pe) creating a condition of excess supply (surplus)

Diagram analysis

The initial market equilibrium is at P_eQ_e
A price floor is imposed at Pmin above the equilibrium level
- The higher price increases the incentive to supply and there is an extension in supply from Q_e → Q_s
- The higher price decreases the incentive to consume and there is a contraction in demand from Q_e → Q_d
- This creates an excess supply equal to Q_dQ_s
In the case of demerit goods, this discourages consumption, reducing output to a level that may be closer to the socially optimal level if the price floor is set appropriately
Consumers lose from higher prices, while producers gain
There is likely to be a deadweight loss, indicating a loss of allocative efficiency

Exam Hint The effectiveness of a price floor depends on the price elasticity of demand. If demand is price inelastic, the higher price leads to only a small fall in quantity demanded, so the policy may have limited impact on reducing consumption

Evaluating the use of price floors

Advantages	Disadvantages
- In some cases, governments may purchase the excess supply (e.g. agricultural price support schemes) and store or export it - Producers are protected from price volatility - When used in demerit markets, output falls (Governments will not purchase the excess supply of a demerit good) - Producers usually lower their output in the market to match the QD at the minimum price and this helps to reduce the external costs	- It costs the government to purchase the excess supply and an opportunity cost is involved - Some producers such as farmers may become over-dependent on the Government's help - Producers lower output which may result in an increase in unemployment in the industry - If demand is price inelastic, the increase in price does not impact QD or solve the market failure

Advantages

Disadvantages

- In some cases, governments may purchase the excess supply (e.g. agricultural price support schemes) and store or export it
- Producers are protected from price volatility
- When used in demerit markets, output falls (Governments will not purchase the excess supply of a demerit good)

- Producers usually lower their output in the market to match the QD at the minimum price and this helps to reduce the external costs

- It costs the government to purchase the excess supply and an opportunity cost is involved
- Some producers such as farmers may become over-dependent on the Government's help
- Producers lower output which may result in an increase in unemployment in the industry
- If demand is price inelastic, the increase in price does not impact QD or solve the market failure

Case Study Context

Alcohol consumption in Scotland was high, creating significant negative externalities, including increased healthcare costs, crime and lower productivity. Cheap, high-strength alcohol was widely available, encouraging excessive consumption, particularly among heavy drinkers

The market price did not reflect the full social costs of consumption, leading to over-consumption (Qe > Qopt) and market failure

Action taken

The minimum price was considered effective

The government introduced a minimum price of 50p per unit of alcohol in 2018

This set a price floor above equilibrium for low-cost alcohol

Retailers were legally prohibited from selling alcohol below this price

The policy specifically targeted cheap, high-strength products

Outcome

The policy led to a reduction in alcohol consumption, particularly among heavy drinkers, helping to move consumption closer to the socially optimal level. There is evidence of falling alcohol-related hospital admissions and deaths

However, the effectiveness depends on the price elasticity of demand, with some consumers relatively unresponsive to higher prices

The policy may also be considered regressive, although it has reduced the negative externalities associated with alcohol misuse

Was this revision note helpful?

Build on this topic

Exam QuestionsMethods and effects of government intervention in markets FlashcardsMethods and effects of government intervention in markets

Advantages

Disadvantages

- Essential goods and services are usually provided free at the point of consumption
- These goods and services are accessible to everyone, regardless of income
- These usually provide both private and external benefits to society

- Paid for through general taxation
- There is an opportunity cost associated with their provision
- Products which are free may result in excess demand and long waiting times, e.g. procedures at public hospitals or lengthy waits to see a GP

Advantages	Disadvantages
- Some consumers benefit as they purchase at lower prices. For these consumers, their consumer surplus increases - Price ceilings can stabilise markets in the short-term during periods of intense disruption, e.g. Covid supplies at the start of the pandemic	- Some consumers are unable to purchase due to the shortage - Producers lose out as the price is below what they would usually receive: their producer surplus falls - The unmet demand usually encourages the creation of illegal markets and exploitation of consumers - Maximum prices distort market forces and therefore can result in an inefficient allocation of scarce resources - e.g. price ceilings of housing rentals in the property market create a shortage - When used in necessity markets, Governments may be forced to intervene further by supplying the good/service themselves in order to meet the excess demand

Advantages

Disadvantages

Advantages	Disadvantages
- In some cases, governments may purchase the excess supply (e.g. agricultural price support schemes) and store or export it - Producers are protected from price volatility - When used in demerit markets, output falls (Governments will not purchase the excess supply of a demerit good) - Producers usually lower their output in the market to match the QD at the minimum price and this helps to reduce the external costs	- It costs the government to purchase the excess supply and an opportunity cost is involved - Some producers such as farmers may become over-dependent on the Government's help - Producers lower output which may result in an increase in unemployment in the industry - If demand is price inelastic, the increase in price does not impact QD or solve the market failure

Advantages

Disadvantages