Question

Explain how taxes and subsides can be used to influence allocation of resources.

Answer 1

Reallocation of resources: Through the budgetary policy, the government can reallocate resources so that social and economic objectives can be met.

1)A tax is a legally compulsory payment imposed by the government on households and producers. The government impose taxes on socially unsafe goods such as alcohol and tobacco. Thereby resources will be shifted to the production of socially essential goods.

2)Subsidies do not reduce the liability of the government and it does not add to the assets of the government. The government also provides subsidies for necessary goods such as wheat, rice and sugar. Thereby the resources are shifted from the production of goods for the rich to the production of goods for the poor.