Question

As a business development executive of an ice cream making company, write a detailed report to the non-executive board on the impact a R2.00 per scoop subsidy. In your report, discuss the effect of such a policy on consumers, government and the producers of ice cream. (15marks)

Answer 1

a subsidy like a tax leads to a deadweight loss in the economy.

it places a wedge between price received by the sellers and the price paid by the buyers.

the buyers pay less than the free market price and the suppliers get more than the free market price.

Both producers and consumers get the gain of a subsidy but the extend of the gain depends on the relative elasticities of demand and suppply.

However it creates a cost to the government which is subsidy*the quantity.

the subsidy increases the quantity from the equilibrium level, however at the increased units the cost to the sellers exceeds the value to the buyers creating a deadweight loss