Cambridge International as and a level Economics Ebook

parts of the world, especially in cities and large towns. 
This is done to give low earners access to employment 
opportunities, to provide social mobility for older people, 
to reduce road congestion and to reduce the adverse 
environmental impact of traff ic. The benefits are to 
individuals and to the community as a whole.
TOP TIP
Do not confuse the eff ects of indirect taxes and subsidies 
on the prices of goods and services. An indirect tax raises 
prices, a subsidy reduces prices.
Figure 3.7 
The
 
eff ects of introducing a subsidy
Price
P
1
P
Q
S
1
S
Q
1
Quantity
subsidy
D
0
73
Chapter 3: Government microeconomic intervention 

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Transfer payments
Transfer payments
are payments from tax revenue that are 
received by certain members of the community. Th
ey are not 
made through the market, as no production takes place. Like 
a progressive taxation system, their function is to provide a 
more equitable distribution of income. Th
e main recipients 
are vulnerable groups such as the elderly, the disabled, the 
unemployed and the very poor. Payments tend to transfer 
income from those able to work and pay taxes to those 
unable to work or in need of assistance. Examples include:
■
old age pensions
■
unemployment 
benefits
■
housing 
allowances
■
food 
coupons
■
child 
benefits.
Th
e extent to which transfer payments can be paid is 
heavily dependent on how much tax is collected and how 
many people have paid tax. In developing economies this 
is aff ected by all sorts of problems. Pakistan has a growing 
elderly population, yet it has a low tax base. Pension and 
social security coverage is limited to the formal sector 
and therefore only covers a small percentage of the 
population. Th
ose who work or who have worked in the 
informal sector are not covered by these schemes. Similar 
arrangements apply in India although a higher proportion 
of the population is eligible for help. In Bangladesh 
there is little or no provision of assistance – even for 
government workers.
Th
e eff ect of transfer payments on the market is a 
controversial issue. It is clear that in most cases they are 
necessary to protect the most vulnerable groups in the 
community. Th
ey result in less poverty and provide for 
a more equitable distribution of income. Th
e counter 
argument is that unemployment benefi ts and benefi ts to 
the poor can act as a disincentive to accepting work, so 
increasing the unemployment rate. As a consequence, 
output in the economy is less than it might be and there is 
a form of ineffi
ciency.