Government Intervention In The

Market
 Content
• Market failure and government failure
• Competition policy
• Public ownership, privatisation, regulation and deregulation
of markets
• Notions of equity
• The problem of poverty
• Government policies to alleviate poverty and to influence
the distribution of income and wealth
• Cost Benefit Analysis
 Market Failure
• Markets fail for a number of reasons:
– Externalities (social costs and social benefits)
– Monopolies
– Imperfect information
– Factor immobility
– Due to equity issues – where there is a disparity
between resource allocation
 Government Failure
• This occurs when government interventions either
increase the severity of market failure or cause a
new failure to arise
• This occurs when policies:
– Have damaging long term consequences
– Are ineffective
– Cause more problems than solve problems
 Methods of Government Intervention
• Taxation
• Subsidies
• Buffer Stocks
• Pollution permits
• State provision
• Regulation
• Extending property rights
 Extending Property Rights
• Extending property rights is a method the
government can use of internalizing the externality.
• The aim of extending property rights is to reduce
the impact of the externality
 Advantages and Disadvantages of
Extending Property Rights
• Advantages
• The government doesn’t have
to assess the value of property
as the owners are in a better
position to do this
• There will be a direct transfer of
resources from the polluters to
those who suffer – the firms
who pollute will have to bear
the negative effects
• Disadvantages:
• It can be difficult - governments
may not have the ability to
extend property rights
especially overseas
• Extending property rights within
a country can be difficult if the
link between the pollution and
the problem is unclear
• Its often difficult for the owner
of the property to assess its
value to them
 Causes of market failure
• Inadequate information this may result from:
– Not doing a cost benefit analysis
– Insufficient information on long term costs / benefits
• Conflicting objectives:
– Governments tend to think in the short term rather than the long
term therefore fail to consider long term costs / benefits
– If governments control an industry they may be more concerned
with their interests than those of the public
– If the policy interventions lead to negative consequences for
consumers / producers e.g. higher income tax
 Causes of market failure
• Administration costs – these may be too high to
reap the benefits of the intervention
• Political self interest – politicians may do what is
best for them thereby resulting in inefficient
resource allocations
 Regulatory Capture
• Regulatory capture this is where a government regulatory
agency who are meant to be acting in the public interest
instead becomes dominated by the interests of the existing
firms in the industry it is meant to be overseeing
• Regulatory capture arises from the fact that the current
firms have a stake in the outcomes of political decisions
therefore ensuring they find a way to influence decision
makers
 Market Failure And Government Failure
• The marginalist model of externalities is used to explain why
externalities result in a misallocation of resources
• This model looks at marginal social costs and social benefits to
enable resource allocation to be efficient
• By looking at marginal social costs and benefits the government can
decide how to impact supply and demand for a specific product
decreasing the marginal benefits
.
 Government policy and the environment
• Environmental change impacts economic behavior
• There is increasing pressure on the government to
consider environmental factors
• The environment is often damaged by negative
externalities caused by consumption and production
 Competition Policy
• EU and UK competition policies have the following
aims:
– To increase consumer choice
– To ensure effective price competition between firms
– To help ignite technological innovations
– To investigate anti competitive behaviour which can
have a negative impact on consumers
 Competition Policy
• In the UK competition policy looks at:
– Control of mergers and takeovers
– The issues of antitrust and cartel formation
– Market liberalisation
– State aid control
 Competition Policy - Office of fair trading
• The office of fair trading (OFT) ensures that
consumers are getting the right prices for products
• This is to monitor anti-business practices and
consumers are protected.
Monopolies and merger competition (M.M.C) and the
competition commission
• If the OFT has reasonable intelligence to find that a
business is being anti-competitive (e.g. charging high prices
or restricting consumer choices), the OFT will report those
businesses to the Monopolies and merger competition
(M.M.C) or the competition commission.
• MMC investigate if businesses will create unfair competition
by taking over companies.
• Competition commission will investigate if businesses are
acting unethically such as charging high prices.
 Punishment
• The OFT, MMC and the competition commission
are likely to investigate businesses with a market
share of over 25%.
• If businesses are found guilty of anti-competitive
behaviour they can be:
• Fined 25% of all profits being made.
• Of they have to give their market share to other
businesses that were affected.
 EU Competition Policy
• EU competition policy looks at
– Restrictive practices
– Abuse of dominant market power.
• This legislation deals with anti competitive behavior
• The EU has the power to punish anti competitive behavior even if
there is no formal agreement to act in an anti competitive manner
• Penalties include them taking 10% of the firms turnover
• Some behaviors including market sharing and exclusive marketing
can be exempt if they increase either consumer benefits or technical
progress
Competition Policy - Costs and Benefits of
Policies
Benefits
Costs
• Administration costs in • Protects consumers from
implementing the policy unfair practices
• Can be expensive and • Encourages and enhances
time consuming to enforce fair competition
Competition Policy – Real World Examples
• The takeover of Safeway by Morrisons was
investigated to ensure that no unlawful practices
occurred
• Tesco is currently being investigated by the EU
 Public Ownership

• Public Ownership – this is where the government

own businesses
• There are arguments for public ownership which
include if goods are seen as public goods then the
most efficient way for resources to be allocated may
be through the market
• If externalities exist in the market the government
may choose to provide the goods for consumers
e.g. education, healthcare
 Public Goods
• These are services that are provided by the government
• Pure public goods have the following characteristics:
– Non excludability – everyone can consume the goods whether
they pay or not
– Non rivalry in consumption – consumption by one person doesn’t
reduce consumption for others
• Examples – street lighting, national defence
 Advantages and Disadvantages of Public
Ownership
Advantages
• Provides jobs which are usually
protected so reduces
unemployment
• Finite resources such as water
and energy can be guaranteed
and controlled
• Able to provide essential
services to the whole country
Disadvantages
• Higher costs for the
government which means
higher taxes
• Inefficiency – public
organisations are often
inefficient due to diseconomies
of scale
• Government and political
interference may reduce
efficiency of operations
 Privatization of Markets

• Privatization occurs when organizations that are owned

by the public are transferred to private individuals
• During the 1980s there was intense privatisation of
companies in the UK including: British Airways, British
Gas and British Petroleum
• When businesses are privatised it allows for increased
competition therefore monopoly power can be removed
 Privatization of Markets – Advantages and
Disadvantages
Advantages Disadvantages
• Provides revenue for the • Unemployment may result as
government businesses try and reduce
• Reduces trade union power costs
• Can increase investment as • Monopoly power may still exist
businesses can use capital • Private sector may fail to
from sale of shares allocate resources according to
• More incentives to increase social costs and benefits
efficiency therefore economic
welfare is increased
• More competition brings more
choice for the subject
 Regulation of markets
• Regulation is the control of the market through rules
• Many privatised companies are regulated by
watchdogs e.g. Ofcom and BT
• Regulators ensure that the new companies don’t
exploit their monopoly power and try and simulate
competition allowing the companies to have a
smooth transition into the private sector
• They become involved in activities such as price
capping
 Deregulation of the markets
• This is the act of removing rules and restrictions in the
market
• The aim of deregulation is to open up the market and
increase competition
• Deregulation aims to increase contestability of markets
• Those in favour of deregulation argue it results in lower
prices for consumers, increases investment and in the long
term can lead to increased economic growth
 Notions of equity
• Equity is a notion of the fairness or justice
• Equality is a notion that everything should be the
same
• People can have different views regarding what
they view as fair
• Differences in peoples views influence policy
 Horizontal and Vertical Equity
• Horizontal equity states that people with a similar
ability to pay taxes should pay the same or similar
amounts.
• This relates to the concept of tax neutrality.
• Vertical equity states that people with a greater
ability to pay taxes should pay more.
 The problem of poverty
• Poverty can be measured in two ways:
• Absolute poverty – this looks at the amount of
people who live below a certain level of income
• Relative poverty – this looks at the extent to which a
households income is less than the average income
in the UK
• Relative poverty measures allow us to look at
inequalities in incomes and wealth
 Government Policies to Alleviate Poverty and to
Influence the Distribution of Income and Wealth

• The government try and alleviate poverty and create a

more even distribution of income and wealth
• Policies that they use include:
– Working credit and tax credit schemes to encourage low-income
households to work
– National minimum wage legislation
– Schemes encouraging long term unemployed to work e.g. new
deal
– Minimum guaranteed incomes for pensioners
– Progressive tax – pay more they more you earn and tax free
allowances
– Benefits
 Working credit and tax credit
• Working credit and tax credit schemes aim to
encourage people to go to work on a full or part
time basis
• These schemes allow lower income families to gain
more income from working than under previous
schemes
 National Minimum Wage
• This legislation has meant that the lowest paid
workers have a guaranteed wage level
• This can lead to increases in absolute poverty
 Schemes Encouraging Long Term
Unemployed To Work
• These schemes are part of a long term strategy to
decrease unemployment levels
• If people work they will be better off then if they
claim benefits
• It is better for the government to have lower levels
of unemployment as it means they don’t have to
pay out for unemployment benefits and they gain
revenue through taxation
Minimum guaranteed income schemes for
pensioners
• Pensioners are one of the groups of the population
most affected by poverty
• In the UK the current % of pensioners living in
poverty is 17%
• This figure has fallen and this is can partly be
attributed to the pension credit scheme
 Progressive Taxation
• In the UK a progressive taxation is operated by the
government
• Progressive taxation means that at higher salary
levels you pay more
• There is a tax free amount that all people receive
and the rate of tax increases as salary increases
 Benefits
• People who are unemployed, on low incomes or disabled
can claim benefits
• Unemployed people can claim unemployment benefits to
cover living costs
• Benefits are paid to people for the following:
– Health care
– Education
– Travel
– Housing
– School meals and welfare
 Policies and Poverty Reduction
• In the past 10 years poverty levels have not been
reduced in the UK
• The main reason why poverty has not been
reduced is that benefits have not risen at the same
price as wage levels so income inequality has risen
 Effective Ways to Decrease Poverty
• The most effective ways to reduce poverty include:
– Increasing the progressiveness of the tax system so it is
more equitable
– Use wage inflation as a basis for increasing the value of
benefits and tax credits
– Investment in training to reduce unemployment
– Look at indirect taxation and its effects on incomes
 Cost benefit analysis
• Cost benefit analysis looks at social benefits and
social costs
• Cost benefit analysis involves a number of steps:
– Project appraisal
– Look at the value of social costs and benefits
– Make an adjustment for time – discount future values so
you can look at them at the current rate
– Compare social costs and benefits
– Look at net rate of return for each project
 Advantages and Disadvantages of Cost
Benefit Analysis
Advantages Disadvantages
• Allows for efficient • Can be hard to put values
allocation of resources to social costs and benefits
• Decreases negative • Can be difficult to include
externalities all externalities
• Costs and benefits can be
different for different
groups
 Summary
• Market failure occurs when resources are not allocated efficiently e.g. in
monopolies or where externalities exist
• Governments aim to reduce market failure with subsidies, taxation, regulation etc
• Intervention may increase or create market failure
• Competition policy aims to reduce unfair competition and monopoly power
• Public ownership is the ownership of businesses by the government
• Privatisation occurs when public firms are sold to private individuals
• Regulation is rules and restrictions imposed by the government on the market ,
deregulation is the removing of those regulations
• Equity is the idea of fairness
• Poverty is a problem for UK governments and they try and alleviate it with a
number of policies including benefits, taxation, credits and minimum wages
• Cost benefit analysis aims to give values to social costs and benefits thereby
resulting in more efficient allocation of resources