Doug Ford eliminates the subsidy on electric cars, with Tesla believing it was aimed at them. Historically, electric cars were typically reserved for those of a higher income, and this subsidy only helped higher income earners.
The increase in electric car sales due to the subsidy can be explained by supply and demand. Demand is “the willingness and ability of a consumer to purchase a certain quantity of goods at a certain price”. Supply is “the amount of product that a firm is willing and able to supply to a market for sale at a certain price”. Originally, the electric cars were being produced and sold at market equilibrium (E1), where the price (P*) and quantity (Q*) is optimal for both consumers and producers. At this point, allocative efficiency was achieved – “producing the combination of goods most wanted by society”. The subsidy reduced the costs of production of firms (a non-price determinant), decreasing the cost of the good because the firm requires a lower price to cover the cost of producing it. The price received by the firm increases to “Pp” and the supply curve shifts to the right, with the vertical distance between the original supply curve (S1) and the new supply curve (S2) equal to the amount of the subsidy per unit. This shift from the free market equilibrium (E1) creates a new equilibrium (E2), with the quantity increasing to “Qsb” and the price falling to “Pc” or the price received by consumers, which in turn creates allocative inefficiency.
Figure 1:
Allocative inefficiency creates a misallocation of resources which in turn leads to welfare loss, “welfare benefits that are lost to society because resources are not allocated efficiently”. When a subsidy is granted to a firm, the price that they receive (Pp) and the price that consumers receive (Pc) changes; where consumers receive a lower price indicated by the shift downward from “P*” to “Pc” and producers receive a higher price indicated by the shift upwards from “P*” to “Pp” (Pp = Pc plus subsidy per unit). The shaded area between “P* and Pp” represents the gain in producer surplus, and the shaded area between “P*” and “Pc” represents the gain in consumer surplus. The large triangle “a” represents welfare loss which is because of an over allocation of resources to the production of electric cars (Qsb > Q*).
Figure 2:
The subsidy may have been granted to correct a positive consumption externality, where the use of electric cars by consumers benefits society due to a reduction in pollution, however the underprovision of the good relative to the social optimum would have required government intervention in the form of a subsidy. The subsidy would have shifted the supply curve to the right to meet the social optimum, however the graph above focuses on the idea that the subsidy creates an over allocation of resources to the production of electric cars (creates market failure instead of correcting it). Once the subsidy is removed, the supply curve would shift leftwards (because of an increase in production costs) and return to market equilibrium. The welfare loss and misallocation of resources would be eliminated. Electric cars can be considered a merit good – “goods that are held to be desirable for consumers but underprovided by the market”. This underprovision would be due to their high prices which leads to low income earners not being able to afford it.
The subsidy affects many stakeholders: consumers would be better off because they would receive a lower price; however electric cars are usually geared towards higher income earners, therefore the subsidy may only benefit them, which lends to the idea of income distribution; where “the amount of output people can get depend on their level of income”. Producers would be better off because they would receive a higher price, which incentivizes them to produce more and gain more profit. The government would be worse off because they must sacrifice some of their budget to pay for the subsidy – opportunity costs. Workers would be better off because the firm would hire more workers to produce a greater quantity. Complementary goods, “goods that tend to be used together” such as charging stations may also have an increase in demand due to the subsidy. Electric cars can also relate to common access resources – “resources that are rivalrous but non-excludable” . Unlike fossil fuel cars that use up common access resources (air, due to pollution), electric cars utilize and impact the environment less (more sustainable) which can help to achieve a balance between economic and environmental goals.
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