WEEK 10

Government and the economy

Government intervention in the economy
You will learn about:
Limitations of the operation of the free market

provision of goods and services, public goods, merit goods
inequality in the distribution of income - disadvantaged groups, relative poverty
externalities and the environment - pollution, climate change
monopoly power - the formation of monopolies, government-owned monopolies, privatisation, corporatisation and competition
fluctuations in economic activity - the business cycle and the adverse effects of booms and recessions

You will learn to:
Examine economic issues

assess the need for government intervention in a market economy
examine how the operation of the free market without government intervention might affect the distribution of income, quality of life of individuals and the management of the environment

Apply economic skills

discuss how monetary and fiscal policies can be used to stabilise economic activity
analyse the performance of government business enterprises.

Traditional economics sets out some basic premises. Let's think these through and see where they are happening in our everyday lives.

Market failure occurs when the price mechanism fails to reflect social costs and benefits of production
A public good is non-excludable and non-rival and because of this, the free market will generally fail to provide them, e.g. clean air
Governments in most circumstances will subsidise merit goods, e.g. the Arts
Markets reward businesses for producing demerit goods, e.g. alcohol and cigarettes, but the government will penalise consumption
Extreme inequality is undesirable
Pollution and climate change are externalities of the market
Some markets are best served by a monopoly supported by government as a public enterprise

Why do we need some intervention in the market?

Many economies around the world, including our own rely on the operation of markets which are pushed and pulled by individuals and businesses buying and selling good and services. The free market ideology has created wealth and improved the living standards of millions of people around the world as Hans Roslings shares with us in 4 minutes:

The argument for the laissez-faire approach with deregulated markets seems to have emerged as the hero of the 20th century. Most governments around the world favour economic management and policies that support free trade and globalisation. With the Covid-19 pandemic those policies are taking a battering and we're left wondering what is the right balanced approached that creates wealth and prosperity for all? The limits of the free market rely on the individual's self-interest and this week's lessons start with discovering how economics might have us pegged.

Watch this 4:49 minute clip and decide: What would you do?

So did you SPLIT or STEAL?

The next step in understanding how human behaviour informs markets and their operation goes back to the individual. Behavioural Economics is the study of how people behave in making everyday decisions and how that translates into market outcomes. Try a game of "The Evolution of Trust" and draw your own conclusions on what one of the limits of the market might be.

What implications does this have for us?

Mexie is hoping for some radical changes in the way people think about the economy, for example, the concept of money, rent, our work and the environment. Given your experience of The Evolution of Trust, what radical changes do you think people will make in the current Covid-19 economic challenges?

What have you learned about the limitations of the market?

Try these questions anonymously.

Summing up: Why do Governments Intervene?

Markets are not a perfect mechanism because they rely on individual self-interest not the broader social and economic concerns that benefit us all. We saw in the 'Split or Steal' scenario that self-interest overrode the altruistic sense to cooperate with another human being and in 'The Evolution of Trust' it's the copycat that emerges as the victor. Cheat or be cheated. Cooperate and others will cooperate. We can't leave the broad social needs of our society to a market that thrives on individual self-interest alone however; we need a balance. Too much government intervention crowds out the individual's creativity and innovative perspectives, too little and we're left with a society that is bereft of equal opportunity that thrives on the 'law of the jungle' and only the fittest will survive.

Market failure occurs when the market makes a mess of it!

There are 4 ways we can describe market failure in the real world: