Efficiency is Best Left to the Market - Case Study Example

Introduction Efficiency can be defined as acting or operating in the finest possible way that minimizes wastage of time, energy among other resources. The inputs must be greater than outputs when the appropriate knowledge, skills and technology are applied. Efficiency also means utilization of a particular product with minimum wastage. Economic efficiency can be defined as the practice of making the best usage of scarce resources given different tastes and preferences and existing expertise. Resources are always scarce and hence productivity is also limited. This makes it difficult to satisfy the needs of everyone. Market efficiency occurs as a result of effective competition whereby competing producers have an equal opportunity to produce and market their products and services to consumers who are free to choose the products that satisfy their needs at the most favourable costs among various producers. The inefficient producers incur greater costs in their production processes hence their products become more expensive and are likely to be avoided by consumers. Under such circumstances they are left with no option but to exit the venture. Market efficiency is therefore a self-regulating phenomenon. In case of a serious market failure, ingenious state intervention may help to enhance efficiency and equitable distribution of resources. This paper discusses the notion that efficiency is best left to the market, equity to the State. Efficiency Equity and the State The state asserts the value of all citizens and the need to guarantee equality and justice for all. The government has a duty to ensure that state resources are used for the benefit of citizens in an efficient manner. However, there exists a paradox with regards to the manner in which the economic environment is organized. The institutional arrangement is such that every citizen has to fend for him/herself by engaging in efficient practices in all aspects of life including production and consumption. Those who are not successful in entrepreneurship suffer while those without jobs go hungry. Generally, the society is focused on promotion of equity while incurring an opportunity cost associated with the establishment of social and political civil liberties that are spread equally and collectively and which are envisioned to be excluded from the open market. Such liberties affect the operations of the economy and on the other hand the market affects their functioning (Barr, 2012). The existence of a double edged society that comprises democracy and capitalism presents a complex relationship where one of the aspects must not be ignored when analysing equity and efficiency. By taking in to consideration free enterprise alone, matters related to the sharing of material well-being are ignored. With the economy being dominated by capitalists, the civic efforts to entrench equity are viewed as deliberate meddling with the outcome of a competitive market. Such interferences are usually expensive to the public, which generates the feeling that the state should interfere with the market. The public is likely to associate massive wealth or colossal proceeds with spiteful behaviours of the capitalists or as an inaccuracy of a democratic society. The foundations of a market economy enhance such inequity and are a part of the social structures similar to the public and political establishments that pursue democratic goals. The egalitarian society chooses equality whereby its rights are spread equally while unintentionally compromising efficiency as well as suppressing the role of market (Bastagli et al. 2012). State intervention in the market is necessitated by factors such as market failure and equity. Even though the private sector has the capacity to deal with a number of market failures, some problems are complex and can only be solved by the government. Information failure is one of the complex aspects that motivate government intervention. It is a two dimensional phenomenon whereby some or all the partakers in financial exchange lack sufficient knowledge. It may also occur when one of the partakers in the economic exchange possesses greater knowledge than others leading to an asymmetric situation of information sharing. Both circumstances lead to the probable misappropriation of scarce resources leading to a situation in the market whereby consumers are overcharged or undercharged while firms on the other hand overproduce or produce below their capacity (Rubin, 2009). Efficiency in the market can only be achieved when there is perfect knowledge that is uniformly distributed among all the participants in the economic exchange. When a market failure exists, some participants with more knowledge are at advantage over others leading to an economic problem. State intervention is needed to help those lacking information from being exploited, for example in the case of Lloyds, a pension seller in the UK that lacked a system to make certain that all clients had sufficient information that could help them make an informed judgment regarding the economic value of pension transfer between 1988 and 1993. The company was at an advantage over the consumers leading to a market failure (More, 1997). The ‘lemons problem’ is also an information failure phenomenon that necessitates state intervention. Participants in an economic transaction may make assumptions as a result of ignorance, for example the notion that high or low prices represent the level of product quality. Consumers may be lured in to buying highly priced commodities thinking that they are of high quality while good quality products may be rejected due to their low prices. Under such situations, only the low quality products might be sold. This particularly applies to second hand products that are perceived to be of a lower quality than new ones. Buyers tend to think that the reason for the first owner of the second hand product to sell it is because of a defect where as it might be a different reason. The item may probably be on sale because of failure to service a loan or due to a burning financial issue. Nevertheless, even if the item is re-sold soon after it is bought, even not having been used it will fetch less in the market, equivalent to other second hand ‘low quality’ products (Barr, 2012). The principal-agent problem is a market phenomenon associated with information asymmetry. The problem occurs as a result of professional advice being highly relied upon in the process of individual decision making. Decision makers such as shareholders in a company therefore have to depend on other people such as managers who possess greater knowledge than them thereby generating information asymmetry and the likelihood of inefficiency especially due to divergent objectives between the two. The managers may benefit from shareholders’ ignorance and fail to divulge important financial information that might be useful for the firm’s growth. Insider trading among managers is a common problem causing inefficiencies on the shareholders side while managers gain from sale of shares under cover. Public companies experience significant principal-agent problems, which lead to increased costs and inefficiencies. Extra costs are incurred in monitoring the activities of the managers as well as exceptional remuneration for the best chief executives to enhance efficiency (Grand et al. 2012). One of the government intervention strategies is to enhance information supply such that more people possess knowledge regarding economic exchanges. For example, unscrupulous producers may be compelled to make available precise information regarding their products by labelling them accurately. Cigarette manufacturers, though not unscrupulous are expected to indicate the risks of smoking on their packaging containers. The messages usually go against the impression that the marketers would like to create of their products among consumers. Nevertheless, the products are harmful and if such information is withheld, consumers might suffer as a result of ignorance. Alcoholic drinks in many states must also be labelled ‘excessive drinking is harmful to your health’. This information also appears in electronic and print media adverts. Public companies are compelled to maintain transparency to ensure that shareholders do not lose money from illegal deals out of ignorance (Osterle, 2002). Without laws to govern the organizational behaviour and management of public limited companies, managers are likely to fleece public funds. The state also plays an important role in protecting vehicle buyers from rogue sellers by establishing a benchmark to be adhered to, such as the maximum age of vehicles to be imported. Government agencies may effectively regulate competition in the market to avoid formation of cartels that may hinder fair competition such as the UK Office of Fair Trading and the Competition Commission. Unethical marketing is also controlled by the Advertising Standards Authority to ensure that consumers are offered accurate information regarding the products in the market (More, 1997). The second state intervention is to create demand for information through ensuring that much of it is free or accessible to consumers at significantly low cost. Promotion of literacy and numeracy skills as well as enhancement of IT infrastructure can encourage the desire and knowledge to seek information thereby increasing the demand for information. Consumers who are well equipped with information are able to appreciate its value in making informed decisions to the detriment of capitalists who gain from information scarcity in the market. State intervention in a market system might be viewed by many as a hindrance to the existence of a perfect market but in reality, buyers and sellers are always in an unstable equilibrium whereby the firms are ready to utilise every available opportunity to make more profits regardless of the well-being of consumers. The state should therefore intervene to a certain level that does not hinder business but enhances efficiency (Stiglitz, 2000). The desire to accomplish equity necessitates state intervention in the market. Even though the players in the market are able to avoid market failure, it is difficult for them to accomplish equitable distribution of the benefits entitled to the consumer. The state is responsible for ensuring that all citizens access basic needs at all times. The healthcare market is one that cannot be left for the private sector to maintain efficiency. Equitable distribution of healthcare services through state intervention ensures that efficiency is accomplished by minimizing the cost to the consumer and ensuring that scarce resources are allocated effectively. The state may develop conditions that encourage investment and functional markets without having to directly intervene (Andrews et al. 2011). However, in the case of market failure, direct intervention is necessary and should be aimed to achieve pareto efficiency whereby economic and social policies make consumers better off while ensuring that producers are not made worse off. Nevertheless, a trade-off often results as the value forgone by the producers is redistributed to the consumers thereby improving equity, but on the other hand it lowers the returns to the investors hence a reduction in the output per unit cost, which is considered to decrease inefficiency of production (Grand et al. 2012). The state has to intervene in market systems that involve shared resources to ensure that the ‘tragedy of the commons’ phenomenon does not lead to overuse and eventual depletion of shared resources by self-centred individuals so as to enhance social equity and justice. Producers’ main focus is to maximize the benefits from the available resources through the application of perfect technologies for their ventures. Shared resources such as the fishing waters within the state’s jurisdiction are open to exploitation by all capable individuals. There is often a common assumption that such a resource belongs to no one as it belongs to everybody, hence the tendency to be over exploited by insensitive individuals (Sen, 1992). State intervention enhances measures to curtail such tendencies through setting up ceilings that should not be crossed regardless of the technological capacity. This also happens when standards are set by the government for industries to minimize environmental pollution for the common good of all citizens. Control of emissions by industries and pre-treatment of effluents is achieved at a cost and is part of efficiency improvement in industries. However, since the environment belongs to all, it is likely that industries will emit as much effluents as their capacity allows in maximizing productivity while suppressing the environmental integrity to the detriment of the public. State intervention therefore plays a significant role in upholding social equity (Seshadria & Yuki, 2004). Conclusion Markets can function perfectly when there is no market failure that is caused by information asymmetry whereby some of the players in the market possess vital information that others do not have access to leading to inefficiency. State intervention is needed to ensure that there is uniform distribution of information in the market such that consumers are able to make informed decisions and to improve efficiency. Intervention is also needed to protect public resources from over exploitation and environmental pollution by insensitive individuals. Even though state intervention may not be the best option to improvement of efficiency, well designed interventions can help to prevent the inefficiencies of market failure. The state therefore has an important role to play in enhancing efficiency and equity. The notion that efficiency is best left to the market, equity to the State is therefore not valid. References Andrews, R., Boyne, G., Law, J. and Walker, R. 2011. Strategic Management and Public Service Performance, Basingstoke: Palgrave Macmillan. Barr, N. 2012, Economics of the Welfare State, Oxford: Oxford University Press Bastagli, F., Coady, D. and Gupta, S. 2012, ‘Fair share’. Finance & Development 49(4). Available from: [25th Feb 2014] Grand, L. J., Propper, C. & Smith, S. 2008, The Economics of Social Problems, Basingstoke: Palgrave Macmillan More, C. 1997, The Industrial Age: Economy and Society in Britain 1750-1995, London: Routledge. Osterle, A. 2002, ‘Evaluating equity in social policy: A framework for comparative analysis’ Evaluation 8(1), 46-59. Rubin, I.S. 2009. The Politics of Public Budgeting: Getting and Spending, Borrowing and Balancing, London: CQ Press. Sen, A. 1992, Inequality Reexamined, Oxford: Oxford University Press. Seshadria, A. & Yuki, K. 2004, ‘Equity and efficiency effects of redistributive Policies’ Journal of Monetary Economics, 51, 1415–1447. Stiglitz, J. E. 2000, Economics of the Public Sector, New York: W. W. Norton & Company. Read More