Question

Q5. [20 marks] Consider a perfectly competitive market for childcare. Recently a per unit subsidy was provided for parents who send their child(ren) to childcare. Assume there are no other subsidies in operation in the industry.

a. [10 marks] Examine the effects of this subsidy on consumers, produces and the wider market.

b. [10 marks] Anecdotal evidence suggests that the number of children attending childcare services has NOT increased. How could you explain this?

Answer 1

Answer - If the government imposes subsidy upon the childcare in the market , the price of the childcare service will decrease. This will lead to the price falling below the equilibrium level in the market. As a result of this , consumer surplus will rise , producer surplus will fall. There will be shortage in the market with lesser supply.

If as a result of the imposition of subsidy leading to reduction in price , the demand still not increases in the market , this means that the demand for the childcare service in the market is inelastic. That is why the decrease in the price did not lead to the increase in demand.