Multiple Choice
The government wants to help producers of a life-saving machine, so they introduce a \$1,000 subsidy per machine produced. Assuming that demand for this machine is inelastic, the subsidy will:
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6. Introduction to Taxes and Subsidies
Subsidies
Multiple Choice
What is the effect of a subsidy being placed on a market?
A
It lowers both the equilibrium price and equilibrium quantity.
B
It lowers the equilibrium price and increases the equilibrium quantity.
C
It raises the equilibrium price and decreases the equilibrium quantity.
D
It has no effect on either equilibrium price or quantity.
Verified step by step guidance1
Understand what a subsidy is: A subsidy is a payment made by the government to producers, which effectively lowers their production costs.
Analyze the supply curve: Since the subsidy reduces production costs, the supply curve shifts to the right (increases supply) because producers are willing to supply more at each price.
Determine the new equilibrium: With the supply curve shifting right, the new equilibrium is found where the new supply curve intersects the demand curve.
Examine the effects on equilibrium price and quantity: The increase in supply typically leads to a lower equilibrium price and a higher equilibrium quantity.
Summarize the impact: Therefore, a subsidy causes the equilibrium price to decrease and the equilibrium quantity to increase in the market.
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