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CA Foundation · Business Economics · Public Finance

A dominant firm in a market restricts output and charges a high price, earning supernormal profits and reducing consumer welfare. Which government action is a direct policy response to this kind of market failure?

Enacting and enforcing competition law is the direct response. A dominant firm that restricts output and raises prices reflects market failure from imperfect competition. Competition law prohibits abuse of dominance and anti-competitive practices, protecting consumers and restoring more competitive outcomes, unlike unrelated subsidies, money printing or import taxes.

  1. AEnacting and enforcing competition law to prevent abuse of market powerCorrect
  2. BImposing a lump-sum subsidy on consumers of all goods
  3. CPrinting additional currency to lower prices
  4. DIncreasing the tax on imports of unrelated goods

Explanation

Abuse of market power by a dominant firm is a market failure arising from imperfect competition. The direct response is regulation through competition law, such as the Competition Act, which prohibits abuse of dominance and anti-competitive agreements. The other measures do not address the firm's market power.

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