The Relationship Between Government Intervention in Economy - Coursework Example

THE ROLE OF GOVERNMENT INTERVENTION IN AN ECONOMY NAME: COURSE TITLE LECTURER: DATE OF SUBMISSION: THE ROLE OF GOVERNMENT INTERVENTION IN AN ECONOMY There has been a great debate between the economist and other scholars on whether the government can intervene in an economy fully or limits its intervention to only emerging industries. The free market economist opposes the government intervention citing various reasons. These reasons include the risk of poor governance, effects on individual freedom to spend, and causing market inefficiency (Gruber, 2004). Contrary, other scholars support government involvement in an economy since it acts as a regulatory mechanism that corrects market inefficiencies, which does not correct itself. The reasons cited by those for government intervention includes correcting market failure, a tool of macroeconomics, and tax function (Gruber, 2004). The essay discusses the need for and against government intervention in an economy. The conclusion elaborates if it is best for the government to intervene in an economy or allow market forces to regulate it. The free market economist assumed that the economy has a self-regulatory mechanism that corrects its deviation from equilibrium. The free market was termed as laissez-fair which is a French term meaning leave it alone. According to Arrighi (2007), Smith advocated for the free market but encouraged little government intervention concerning establishing fundamental laws and regulation that acts as a framework for businesses in an economy. The book further terms free market economy as a market that builds faith in individual and distrust for governance body. Therefore, lack of government intervention in an economy may lead to malpractices that are advantageous to one group and disadvantageous to the others. Smith considered little government intervention in an economy healthy since investors turned to it for guidance for example subsidies, formulation and enactment of trade policies, and provision of grants (Arrighi, 2007). Therefore, the economy cannot act on its own without government intervention and its limitation to only emerging industries is not sufficient in developing a robust and efficient economy. According to Gruber (2004), government participation is categorised into two forms that are social and economic involvement. The two types of interventions affect the market directly and indirectly. The economic intervention entails those rules and regulations that affect price levels. The government adopts economic participation with two motives; protecting the consumer from the price hike, and small enterprise in an economy dominated by few large companies. The small companies are always disadvantaged since large corporations enjoy economies of scale resulting in lower cost of production. The low cost of production enables them to sell its products at a lower price compared to infant companies which create disparity in profit margins. These leads to the creation of monopoly effect which lowers consumer satisfaction since they lack a broad range of products to choose from when making consumption decision. According to Fischer (1993), the government assumes that market is not perfectly competitive. Thus its involvement tries to bring out a common ground for firms with different financial muscles to compete fairly. Therefore, economic interventions prevent unhealthy competition that discourages new entrance to the market and limiting consumer satisfaction. The unhealthy competition entails practices such as price wars and unethical advertising. On the contrary, social interventions are those measures put by THE government and they are not economic in nature. The measures try to dictate corporate practices by either encouraging or discouraging consumption of certain products depending on the social benefit derived from consuming it (Arrighi, 2007). For example, the government can impose high restriction in the form of taxes and requirements of market entry of new firms venturing into polyethene products to reduce environmental impact. The imposition of high taxes on cigarettes reduces consumption since it has a negative effect to citizen thus reducing the risk associated with it. Contrary, the government can encourage consumption or production of a product with a high social benefit, for example, the government can provide subsidies to companies in agricultural sector since improving in the sector results to creations of jobs and ample food supply for the nation. Therefore, small government intervention can result to lower consumer satisfaction, the collapse of infant companies, lack of unattractive investment which is essential to citizens or lead to increased production of hazards products such as cigarettes and non-biodegradable products. Also, non-economic intervention goes a long way in ensuring that employees receives favorable working condition and well-tailored benefits such as providing room for personal development, retirement schemes, leave, and equal work opportunities. The government can influence employment condition through the provision of incentives such as tax holidays and subsidies to those players who upholds a given practices set by the authority. According to Arrighi, (2007), USA had used laissez-fair principle, but liberal political leaders have advocated for increased government intervention. The main issue of contention raised by conservative political leaders includes the fact that authority can protect inefficient firms and disadvantaging consumer. On the contrary, liberals support government involvement that results in improved public benefit other than private interest (Rosen, 2004). The intervention of government is necessary since it acts as a macroeconomic, regulatory tool. The macroeconomic entails an examination of performance, behaviour and structure of an economy as a whole rather than the individual market. Therefore, the government has a great role in influencing the macroeconomic condition of the country. Macroeconomic cut across factors such as gross domestic product, the balance of payment and consumption pattern of individuals. According to McAdam (2010), the role of government was clearly demonstrated by US government during 1930 recession. The businesses demand of goods and services dropped to its lowest point which resulted in high levels of unemployment. The depression pushed John Keynes to develop the Keynesian theory to address the great depression (Keynes, 2007). The theory advocates that government must spend on the economy to bring effect on output and inflation. The US government had to create jobs which acted as an avenue for it to inject money into the economy. The increase of money in the economy improves aggregate demand which in turn leads to improved consumption of goods and services since consumer purchasing power is increased. The great depression was greatly attributed to lack of government intervention thus prevalence of capitalisms which led to unhealthy competition and market hardship for both new firms and consumer purchasing power (Gruber, 2004). The US depression pushed the government to increase its quest in convincing investors and other stakeholders to allow the government to intervene. The recession was experienced though the government had intervened through enactment laws such as Sherman Antitrust Act of 1890 which revived competition and create an enabling environment for the new entrance into the market by reducing monopolistic effect in the economy. In 1906, US government intervened to protect consumers by passing the law that compels companies to meat inspection before being sold and correct labelling of food and drugs to avoid confusion. Also, the US introduced federal banking system in 1913 with the mandate of controlling bank’s activities and money supply. The depth and broadness of financial market determine the strength and efficiency of an economy (Fischer, 1993). Therefore, government intervention through a creation of federal system proved to be a major milestone in regulating the supply of money which directly affects the economic performance of a given country. For example, excess supply of money in an economy creates an inflationary effect where prices of goods and services persistently go up, and money loses value. Excess demand, on the other hand, creates a deflationary effect which business since the output is higher than consumption rate. Therefore, the government has an active role in dictating the direction of its economy. McAdam (2010) demonstrates strategies adopted by US government overcame the weakness of politicisation of policies and regulation enacted by the government. The procedures adopted were proposed due to significant pressure from the conservative who argued that government intervention can affect the economy negatively since the politician can choose a wrong decision. For example, the politician might increase money supply when the economy is facing inflationary effect. T he strategies adopted by US government included creating agencies which do not have direct political interest or influence. The agencies were tasked to accomplish a set of objectives such as ensuring businesses fully implemented food and drug act. The personnel of created agencies comprised of the skilled individual on roles given. The US government had 100 agencies by 1990 which mitigating political pressure in matters related to economic soundness of the country. Therefore, the assertion of free market economist that economy with government intervention susceptible to implementation wrong decision due to political influence do not hold any water. Thus, functioning economy is dependent on policies and regulation which are formulated and implemented by the government. Also, the government has a great role in breaking down capitalism and improving equality in an economy. The balance is achieved through redistribution of income and wealth to ensure equal opportunities and outcome (Rosen, 2004). According to toFischer (1993), diminishing marginal return to income establishes that one tends to spend more when he/she gets an increase in revenue, but an increase depends on the current financial status of an individual. For example, an increase in income for an employed individual provides the marginal increase of utility, but an increase of income of unemployed person improves the standard of living. Therefore, from the utilitarian perspective improvement of a net citizen living standard is more beneficial thus government must intervene in redistributing income and wealth by adopting measures that discourage capitalism. Consequently, the government can ensure equality in the market through breaking down of monopoly powers that might lead to misuse by the enterprises which include low wages to employees and high prices to consumers. The economy that lacks government influence do not provide companies a fairground since success is not tagged to ability and diligence, but monopoly power. The Rawls Social Contract advocates for equality by putting forth the idea that; if one were given an opportunity to choose where to be born, most would consider being born in those families with greater wealth. But since we are born not knowing if whether on the rich or poor side, individual prefer government intervention since there is equal opportunity regardless of the situation that we are born in (Freeman, 2009). Therefore, redistribution of income and wealth through government intervention is core in creating an equal society (equality fosters peace and morality of the community), unlike free market where the disparity of rich and poor enormous thus creating social problems such as robbery and drug abuse (Akerlof & Shiller, 2009). Another way in which government intervention fosters equality is through redistribution of inherited wealth. The government can introduce a tax on inheritance or rewards since opportunity does not depend on where you are born, but the ability to create own wealth. The equality is brought in when the government uses the tax obtained in funding projects that benefit the whole society such as the provision of basic amenities. Lastly, government intervention proves valuable in correcting market failures since the free market is associated with various failures. The correction of market failure can be achieved by considering the following; First, positive externalities are upheld by the government as a way of correcting market failure. The positive externalities are goods and services that are unattractive to private investors their participation result to provision at a higher cost which results in inequality (Rosen, 2004). These products include health care, education, and provision of social amenities that have lower or no profit. Therefore, provision of merit goods and services prove beneficial since both rich and poor can consume. Secondly, the government is required to participate in an economy through the collection of taxes which in return helps in funding public goods such as national defence or policing. Also, provision of such goods cannot be entitled to private investors due to the technicality and lack of a good way to quantify price that each needs to pay for benefit derived from consuming it (Rosen, 2004). Thirdly, monopoly is one of market failures since a good market demand to provide a fair ground for business for all. The government can step in by formulating and implement the regulation that eliminates monopoly and discourages destructive competitive strategies employed in the market (Gruber, 2004). Lastly, the government can reduce negative externalities caused by firms which aim at maximizing profits and wealth. The company compromises social benefit over private benefit since such issues as environmental pollution leads to the decline of social welfare (Gruber, 2004). For example, the release of toxic to a river leads to dire consequence to the health of those consuming the water. The government intervention forcing firms to develop clear waste disposal policies and charging taxes basing on the level of environmental destruction has a greater effect in mitigating negative externalities. The theorist on real business cycle opposes Keynesian theory that increase in government spending during the depression is helpful. They argue that increase in government expenditures only creates debt, but does not reduce recession period (Altig et al., 2011). It creates an area of contention between free market economists with those in support of government intervention. In conclusion, we can note that government intervention gives an economy an excellent opportunity for high efficiency and strength. The extensive involvement enables economy overcome inefficiencies caused by capitalism, market failure, and macroeconomic position of the country. Also, the tremendous growth of government intervention in the US from 1890 is a clear indication that there more merit than demerits. Therefore, a government must not limit itself in influencing emerging industries, but support all industries in the economy. (Word count: 2,247) Reference: Akerlof, G. A., & Shiller, R. J. (2009). Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism. Princeton: Princeton University Press. Altig, D., Christiano, L. J., Eichenbaum, M., & Linde, J. (2011). Firm-specific capital, nominal rigidities and the business cycle. Review of Economic dynamics, 14(2), 225-247. Arrighi, G. (2007). 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