Tuesday, March 1, 2011

Iran Removes Gasonline Subsidies

At the end of 2010, (as reported in the New York Times) Iran removed government subsidies on the price of gasoline, which resulted in an increase in the price of gasoline from $0.38 a gallon with the subsidy to $1.44 a gallon without the subsidy (for the first 16 gallons of gasoline per month; for consumption greater than 16 gallons the price is $2.64 a gallon). Government officials sent out police in riot gear in case of further civil unrest. Why might this occur - economic welfare.

Let's assume that there is a per unit subsidy - which seems to be the case with the gasoline subsidy in Iran. With a per unity subsidy, consumer surplus is greater than without a subsidy - so consumer surplus (consumer's economic well-being) is higher with the per unit subsidy than without the per unit subsidy. The same is true for producers with a per unit subsidy; producer surplus (producer's economic well-being) is higher with a per unit subsidy than without the per unit subsidy. So both consumers and producers are economically "better off" with a per unit subsidy - so why are economists generally not in favor of per unit subsidies? Because the government is "worse off" and the amount the government is "worse off" is greater than the combined gains of the consumers and producers. In other words, there is a "deadweight loss" from the per unit subsidy. In the article, the gasoline subsidy is estimated to cost the government $4000 per family and in total is about $114 billion per year.

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