Government intervention in the economy happens mainly due to market failure. The government embarks on the task of remedying such situation. It is also for the purpose of achieving even-handed allocation of income and wealth and for ensuring that the economy's performance improves consistently. There are numerous ways of intervention, for instance, through setting laws on the minimum age for buying alcohol and the legal national minimum wage.
Rationale for Government Intervention in Terms of Efficiency and Equity
Government intervention in the market is done mainly in order to achieve goals of equity and social efficiency. In terms of equity, it begs the question whether the policy implemented by a government is perceived as fair. The members of a society should benefit from such intervention in a fair way in order to ensure no one individual or group gains more than the other does. For instance, there is a question whether it is fair for the government to put forward educational maintenance payments for A-level students in households receiving low income to continue schooling after GCSEs. Another instance is whether it is equitable for the government to raise the high rate income tax to 55 per cent in order to ensure equal distribution of income.
Government intervention in terms of effectiveness refers to the issue of the capacity of government policies to meet set objectives in the economic sector. For example, in a bid to reduce congestion on roads, the policies put in practice should ensure that there is little to no traffic jams. When the policy is implemented that way, it is effective because it solves the problem and achieves the objective in question. Evaluation of government intervention through putting policies in place is also about considering the costs required for implementation. The Government should work to reduce costs.
Externalities are extra costs incurred or gains received. Presence of external costs, considering all other factors to be constant, leads to the rate of production and consumption exceeding the socially efficient level. Existence of external benefits causes the market to fall to the level of production and consumption below the socially efficient level.
These externalities will be under provision of public goods in the market. The dilemma is that they posses great external benefits in comparison to private ones, and in the absence of government intervention it would be quite impossible to put a stop to people having a "free-ride" and in that way dodging making a contribution to their cost of production. The existence of monopoly power will cause the level of output production to fall below the socially efficient point. It will also lead to both the consumer and the producer losing their surpluses. This is deadweight welfare loss.
Lack of information on price may cause consumers and producers to choose lower levels of activity since the assumption of lack of free flow of information applies in imperfect markets. Even if the information may sometimes be afforded by the market at a price, it may be inadequate or flawed. In some situations, no information is provided at all.
Government intervention may cause sluggish response to alterations in demand and supply in the market. The time lags in regulation can cause a lasting state of disequilibrium and also lead to the issues of instability. In a free market, there sometimes exists inadequate provision for dependants and insufficient amounts of merit goods produced. Government intervention may work to remedy this and thus improve on the efficiency of the market.
The government may impose taxes and subsidies as one way of remedying market distortions. Imposing tax rates equivalent to the magnitude of the marginal external cost is a good way to correct externalities. Another would be granting subsidy rates equal to marginal external benefits. Government taxes and subsidies can also be employed in order to influence monopoly price, amount produced, and profit gains. It is also possible to use subsidies to convince monopolists to increase their production output to the competitive level. Such high outputs result in lower prices; this way, the government protects the interests of the consumer and enhances the efficiency of the market.
Offering tax lump-sum can lead to reduced monopoly profit gains without upsetting price or output. An advantage of taxes and subsidies would also be to "internalize" externalities and offer incentives to decrease external costs. Conversely, they may be unusable when varying rates are necessary for each situation, or when it is not possible to identify all the consequences of the activities that the taxes or subsidies are being used to correct.
In terms of equity, government intervention in the form of an extension in property rights could be used by individuals to discontinue others from imposing costs on them. Even though this is rather impractical, when numerous people are affected in a small way, they may alter their attitude about how they would want such situation handled. Government laws can be employed in order to control actions that impose external costs. They are also an effective tool in regulating monopolies and oligopolies and protecting the interest of the consumer. Legal controls are simple and easy to operate when compared to taxes and are a safer approach when there is potentially great danger; on the other hand, they are not as effective.
Activities that threaten public interest can be controlled and monitored by regulatory bodies set up by the government in order to ensure equity. This helps in preventing competitive behaviour of oligopolies for instance. Carrying out investigations of certain cases is time-consuming and expensive and the authorities may not undertake to execute them. Provision of information is another important responsibility that the government may assume in cases where there is a lack of adequate flow of information. The government could also undertake to supply goods and services.
The government may afford information in sectors where the private sector fails to provide an adequate level. It may also provide goods and services directly. These could be either public goods or other goods where the government feels that provision by the market is inadequate. The government could also influence production in publicly owned industries.
Government intervention in the market may cause a deficiency or surpluses. This may be due to poor information. It may be expensive in terms of administration. Moreover, government intervention may suppress incentives. It may also be unsettling if government policies are altered too often. At times, it may not correspond to the mainstream voters' welfare if the government is chosen by a minority voters were not well conversant with the issues at the time for election, or if the policies were excluded from the government's manifesto.
A free market leads to changes in economic situations. The prospect of monopoly/oligopoly profit gains may fuel risk taking and in turn enhance research and development, and innovation. This advantage may overshadow any issues of resource misallocation. There may still be a great degree of real or potential competition in monopoly and oligopoly. There are two approaches of social responsibility. The first affirms that it should be of no concern to the business, which would do best for society by serving the interests of its shareholders. Social policy should be left to politicians. The alternative view is that business needs to consider the impact of its actions upon society and consider changing social and political situation when making decisions. This is good business.
Government intervention leads to enhancement of society. The virtue matrix is a way of demonstrating the drivers of corporate social responsibility. Firms will take socially accountable actions if they are obliged to by law or if dictated by social norms. These demands on companies signify the "civil foundation". Various companies will take corporate social responsibility to another level and thus progress. At this frontier, they may do things that are beneficial to society and may lead to higher profit gains for the firm or may even evidently lessen profits. As companies become more socially accountable over time and as social demands on business rise, so the civil establishment is likely to develop. There is evidence that implies that economic performance is expected to be improved as the corporate responsibility of companies rises.
Reasons for Concerns over Government Intervention
It is important to note that the results of varying types of government intervention in markets are never neutral - economic sustenance provided by the government to one group of producers rather than another will always generate "winners and losers". Taxing one product more than the other will obviously cause conflicts and in turn inequality in the government, raising concern.
Government intervention does not work all the time in the way it was planned or the way economic theory expects it should. Part of the interest of studying Economics is that the "law of unintentional consequences" regularly comes into play. Events can affect a particular policy, and consumers and companies seldom act specifically the way the government might want. We will deem this in more detail when we consider government failure, as it will similarly have diverse effects on varying factions of consumers.
Monopolies, oligopolies, and abnormally high market concentrations all stem from government intervention into the free market putting a variety of barriers to the entrance and exit of competing businesses. This is completed in the pretext of regulating or endorsing capitalism but is in reality within the structure of corporatism, the coalition of large business and big government. Big business works with big government to socialize costs in exchange for a share of profits. Big business also likes big government because it has a competitive advantage over small ventures in doing business with it and negotiating favours. Big government, in turn, likes big business because it is manageable. This alliance has distorted our markets and increased the power of both partners at the expense of competition, consumers, and citizens.
Libertarians and other supporters of laissez-faire or free market economics in general believe government interventions to be detrimental because of the law of unintentional consequences, confidence in government's ability to handle economic consideration and other concerns efficiently. Government representatives have a tendency to be naturally inclined to seek out more power and authority, and the wealth that more often than not goes with those things. This expedition often takes the form of economic interventionism, which they then seek to defend. Many modern liberals mostly in the United States and present-day social democrats in Europe are disposed towards supporting interventionism, viewing state economic interventions as a significant way of attaining wealth relocation or promoting social welfare.
Marxists frequently believe that government welfare programs might get in the way of the objective of ousting capitalism and substituting it with socialism since a welfare state makes capitalism more bearable to the regular worker. Socialists frequently disapprove of interventionism, as maintained by social democrats and social liberals. They argue that they are unsustainable and responsible for causing further economic deformation in the long-run. From this point of view, any effort to match up capitalism's challenges would cause distortions in the economy elsewhere, so that the only actual and long-lasting solution is to substitute capitalism with socialism completely. In addition, political conventionalism of the nationalist selection recurrently sustains economic interventionism as a way of defending the power and wealth of a nation or its populace, predominantly through benefits granted to industries viewed as important on a national scale.
Government-based regulatory authorities do not constantly shut down markets. Yet, as viewed in economic liberalization attempts by states and a variety of institutions such as the International Monetary Fund, financial liberalization and privatization concurred with democratization. One study implies that subsequent to the lost decade, an escalating dissemination of regulatory establishments has materialized. These actors occupied in reorganization of the economies within Latin America. Latin America through the 1980s had suffered a debt crisis and hyperinflation. These intercontinental stakeholders controlled the state's economic influence and bound it in contract to collaborate. After numerous projects and years of unsuccessful efforts for the Argentine state to conform, the restitution and intervention appeared delayed. Two key interference issues that prompted economic advancement in Argentina were significantly rising privatization and the institution of a currency board.
In Western nations, government offices in theory weigh the cost benefit for an intervention for the populace, or they submit beneath compulsion by a third private party thus must do something. In addition, intervention for economic growth is at the discretion and self-interest of the stake holders, the diverse interpretations of advancement and development theory could signify. To demonstrate this, during the 2008 debt crisis, the American government and international organizations did not support Lehman Brothers therefore permitting them to claim bankruptcy. Days later, when AIG was on the verge of collapsing, the United States Government used public funds to prevent it from falling. These businesses have unified welfare with the state. Therefore, their enticement is to sway the government to authorize regulatory policies that will not restrain their accrual of assets. In this situation, government inclination to come to the financial rescue of one firm and not the other raises concern over the government protecting its interests at the expense of the public and other corporations. Equality and effectiveness of the government intervention is thus limited especially in countries where corruption and mismanagement of resources is an impending menace.
To conclude, the discussion has focussed mainly on government intervention in terms of effectiveness and equity. There are however other ways in which government intervention can be assessed. The first is in terms of the efficiency of a policy. This is concerned with whether implementation of a policy enhances better implementation of scarce resources. Another approach is by considering the sustainability of a policy whereby government intervention should lead to implementation of policies that protect the interests of future generations. In these two aspects, for instance, government failure in terms of efficiency would be implementing policies that lead to mismanagement or improper allocation of scarce resources and, in terms of sustainability, the poor decisions regarding resources that influence the future, such as sources of energy.