IB Economics real world examples (Microeconomics)

2.6 Supply elasticity

Examples of PES elastic/inelastic goods

• Elastic Supply: Soft drinks are PES elastic because firms can scale up production fairly easily by expanding factory capacity. Since they are ultra-processed and have a long shelf life, they can also be stored and distributed cheaply. This makes supply highly responsive to price changes. 
• Inelastic Supply: Semiconductors (computer chips) are PES inelastic. If prices rise, companies like TSMC cannot quickly expand output because building new fabrication plants takes many years and billions of dollars. Factories usually run at full capacity, and chips quickly become outdated, making stockpiling ineffective. As a result, supply is very unresponsive to price changes.

2.7 Role of government in Microeconomics

Price floor

• In the U.S., the federal minimum wage is set at $7.25 per hour, acting as a price floor in the labor market. This rate has not increased since 2009, and with inflation eroding its value, many campaigners argue it should rise to $15 per hour. Raising the minimum wage would boost worker surplus (higher incomes for low-paid workers) but reduce firm surplus (higher labor costs for employers). Critics, however, argue that setting the wage above the equilibrium level makes labor more expensive, leading to an excess supply of workers – in other words, higher unemployment, as some firms will be unwilling or unable to hire at the new wage.

Price ceiling

• In countries like the Netherlands and France, governments impose limits on how much rents can rise each year, acting as a price ceiling. This protects tenants by keeping rent increases more in line with incomes. However, if demand for rental housing rises, a shortage may occur because landlords are unwilling to supply additional housing at the capped price.

Indirect tax

• Many countries impose high indirect taxes on products like polluting cars, sugary drinks, alcohol, and cigarettes. By increasing the price, these taxes aim to reduce consumption of harmful goods. While this lowers consumer and producer surplus, the government gains tax revenue, which can be used to fund public services or other priorities.

Subsidy

• China has for many years heavily subsidized electric cars, in an effort to increase both production and consumption. This has worked because these cars are now significantly cheaper than petrol cars. Both producer and consumer surplus has increased, however, this is a costly government effort, since the more successful this scheme becomes, the more money the government has to spend. 

Direct provision of services

• In most countries, public transportation (buses and trains) is not profitable for private firms, leading to limited service and coverage without intervention. As a result, governments often provide these services because their social benefits – reducing traffic congestion and improving accessibility – justify the cost.

Command & control regulation/legislation:

• The Norwegian government aimed for all new cars sold by 2025 to be emission-free. To achieve this, they introduced strong incentives: EVs were tax-exempt, faced no indirect taxes (unlike 25% for petrol cars), could use toll roads, ferries, and bus lanes for free, and had free parking. These incentives were extremely effective, dramatically increasing EV adoption. However, they also caused unintended consequences: the government lost substantial revenue from taxes and tolls, and bus lanes became congested with EVs, undermining their original purpose. Some incentives have since been scaled back, illustrating both the power and limits of regulation in shaping markets.

Consumer nudges

• Rather than banning cigarettes, many countries use plain packaging to make them less attractive. First introduced in Australia, boxes must be a dull brown color, display health warnings like “SMOKING KILLS”, and remove brand logos. This nudges consumers toward quitting without restricting choice. While an outright ban could reduce consumption further, plain packaging preserves consumer freedom while still influencing behaviour.

2.8 Market Failure: Externalities & Common Pool Resources

Positive externality of production

• When building renewable energy power plants in the U.S., the social benefits – reduced carbon emissions, lower dependence on foreign energy, and less pollution – exceed the private benefits to electricity companies (i.e., MSC > MPC). Left to the free market, few projects would occur because private firms don’t capture these wider societal gains. To address this, the U.S. government introduced the Inflation Reduction Act, which subsidizes green energy investments, such as solar panel production, encouraging more socially beneficial projects.

Positive externality of consumption

• Foods like fruits and vegetables generate positive externalities because healthier diets reduce strain on the healthcare system (MSB > MPB). In a free market, producers often prefer selling processed foods, and consumers may choose them for taste. To address this, countries such as the US, UK, and Germany run campaigns like “5 a day”, encouraging people to eat five portions of fruit and vegetables daily. These initiatives use education and awareness to nudge healthier choices.

Negative externality of production 

• A coal power plant in India emits as much CO2 as the entire country of Switzerland, just as a by-product of energy production. This represents a significant negative externality, as the additional tens of millions of tonnes of CO2 contribute to global climate change, imposing costs far beyond what the plant operator experiences (MSC > MPC). One policy that could help limit this pollution is a system of tradable emissions permits. This approach would set a cap on total emissions while allowing power plants to trade permits, providing an incentive for the plant to adopt cleaner or more efficient technologies.

Negative externality of consumption 

• Smoking imposes costs on society beyond the smoker, such as healthcare expenses for lung cancer and other illnesses (MPB > MSB). Governments worldwide try to reduce smoking through high taxes, regulations on where people can smoke, public health campaigns, and international agreements. An interesting evaluation point: a controversial 2000 study suggested smokers might cost governments less in pensions and long-term healthcare because they die earlier. However, this study, funded by a tobacco company, was widely criticized as immoral and biased, highlighting the ethical considerations in policy-making.

2.9 Market Failure: Public Goods

Examples of public goods

• Public goods are non-excludable and non-rivalrous, meaning firms cannot easily charge consumers and profit from them. Common examples include: national defense, streetlights, public parks, police services, and knowledge/education resources. These goods are typically provided or funded by the government because the free market would underproduce them.

Government intervention in response to public goods

• In the vast majority of countries there is at least some form of military provided by the government.  Some of the militaries' goods and services are provided directly by the government, such as making armor and organizing the hierarchy in the system. However, the government may also pay private companies to design and build things themselves, such as fighter jets from Lockheed Martin or missiles from Raytheon (contracting out to the private sector). This is the case in many Western countries and is infamously known as the military-industrial complex. Sometimes this works because private companies tend to be more efficient than state entities, but since they also aim to maximize profits it can also be much more expensive than otherwise. 

2.10 Market Failure: Asymmetric Information (HL Only)

Example of asymmetric information 

• Before 1996, food and drink manufacturers were not required to provide nutrition information. As a result, consumers had limited knowledge about what they were eating, leading to potential information failure and suboptimal choices.

Responses to asymmetric information 

• In recent decades, both the U.S. and the EU have introduced regulations requiring food and drink companies to list ingredients and nutritional information on packaging, including calories, sugar, and fat content. This ensures consumers have more information, helping them make informed and healthier choices.

2.11 Market Failure: Market Power (HL Only)

Monopoly

• ASML holds a monopoly on EUV lithography machines, essential for producing advanced computer chips. With no substitutes, extremely high barriers to entry (billions in R&D and decades of expertise), and price-making power, ASML restricts output below what chipmakers demand, making the market allocatively inefficient. However, the monopoly also generates economies of scale, as only a single large firm could afford the vast research costs. This improves efficiency in innovation, even though high prices and limited supply reduce overall market efficiency.

Natural monopoly

• In many cities, public transport (buses, trains, subways) is run by a single provider. This avoids the chaos of multiple firms operating separate routes and allows passengers to use one ticket across the network. Since costs per route fall when a firm operates many lines, economies of scale make it more efficient for just one company to supply. A natural monopoly can therefore lower average costs, keep prices down for consumers, and reduce potential welfare loss.

Collusive oligpoly

• In 2019, the EU discovered that Mercedes, BMW, and Volkswagen had colluded to delay the adoption of cleaner car technologies. By agreeing not to innovate, the firms maximized profits but caused allocative inefficiency, as consumers were denied more environmentally friendly cars and faced reduced choice. This type of collusion mirrors game theory: while firms might be tempted to undercut each other, cooperation allowed them to maintain higher profits. The agreement lasted until regulators intervened, and the companies were fined by the EU.

Non-collusive oligopoly

• In Bangladesh, the top three telecom providers hold market shares of 43.8%, 30.2%, and 22.4%, giving a three-firm concentration ratio of 96.4% – evidence of a highly concentrated market. These firms compete on price and non-price factors (e.g., data allowances, phone discounts, extra features). As an oligopoly, the market leads to welfare loss, since subscription prices are kept above the socially optimal level, reducing allocative efficiency.

Monopolistic competition 

• Restaurant chains like McDonald’s operate under monopolistic competition, with slight product differentiation (brand, menu, service style) and moderate entry barriers (costly but possible to start a restaurant). Firms act as price makers, setting prices above marginal cost to maximize profit. This leads to allocative inefficiency and welfare loss, since output is below the socially optimal level.

Perfect competition 

• Discogs, an online marketplace to buy CDs, offers something very close to a perfect competition.  Each seller of a CD sells the same (homogeneous) product, and has to provide the price, condition, and image of the CD. Consumers therefore have almost perfect information on the product, too.  Since there are often lots many sellers, they are price takers as they have no market power at all.  Lastly, there are no barriers to entry as anyone can register an account and start selling their own collection. This makes for a very efficient market, at least for popular CDs, with very little welfare loss. 

2.12 The Market's Inability to Achieve Equity (HL Only)

• The U.S. is a largely market-based economy, where most economic decisions are left to the free market. While this encourages efficiency and innovation, it has also led to higher inequality than in countries with stronger government intervention. Compared to many other Western nations, the U.S. shows greater income inequality, lower life expectancy, and lower overall quality of life, highlighting trade-offs of a free market system.

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