ECON 369
Lecture Two: Arguments for Government Provision of Goods
“Market Failures” from the standard welfare economics view (mostly from Mitchell and Simmons - see references on syllabus).
What is market failure? “ . . . the failure of real world markets to achieve the standards of the imaginary market.”
Is it misunderstood?
Are these market failures? Is the government solution always better?
Can we really put the market (or anything else) up next to an imaginary construct of perfection?
Perhaps we should judge a rule, system, etc. against another rule or system instead of against perfection (however defined).
First - what is a government? What is the "essence" of government?
In all of these arguments -- must look at the cost of having government enter the picture vs. what the government does.
a. measuring these costs/benefits (?)
b. unintended consequences of government - economists don't agree on what outcomes are actually created by government
Standard Justifications for government: Basically there are two main arguments against relying solely on markets to allocate wealth and income – market failures (1-4 below) and injustice or fairness (5-6 below).
Positive:
Negative:
Argument: Socialized costs and privatized benefits:
Graph of negative externality caused by production -
People get a free ride at others' expense.
Broad categories of government policy:
1. persuasion (government campaigns): https://www.youtube.com/watch?v=m9CSPXHrP_E
2. regulation through direct controls (command and control):
3. regulation that relies on market incentives:
4. direct government expenditure (government produces the good in order to avoid the externality):
Counter-Argument by economists: internalize the costs/benefits -- for example, property rights and/or strict liability laws -- you are liable for the costs you impose on others. (Remember that laws do not necessarily mean government has to exist to create or enforce them).
if that isn't possible (why not?), must think about the costs/benefits of the two options -- letting the externality persist or bringing in government.
Remember: generally speaking economists emphasize that the best way to handle anything really is to make individual interest coincide with the group interest.
Nonexcludable (nonexclusive) –
Nonrival –
Problem: free riders (benefits are socialized while the costs are privatized)
How can one charge for a public good?
Even if can charge, how can we determine the price?
Without the price, how can we decide how much to produce? How can we obtain signals about what it is that people want (do they really want the public good -- and how much they are willing to pay)?
Argument: Because the benefits of a public good are received upon production, not upon payment, people can benefit without paying.
The good isn’t produced and total welfare goes down. So government provides the good - and welfare increases. This is one of the arguments for government having a monopoly on police and military force (there are others).
Another argument (Samuelson) - the government should finance any good whose marginal cost is zero. What do you think?
Government Policy: turn free riders into forced payers through taxation - the government provides the good. The presumption is that forced taxation is often the only answer. "So we get half-filled concert halls and city buses."
Counter-Arguments: But how should the good be paid for without reducing social welfare?
And, do public goods really exist anyway? Are there examples?
Don’t free riders still exist if the government supplies the good? Some people use the goods but don't pay taxes.
Government can coerce payment from taxpayers whether they consume the good or not, but there is still no guidance as to the "optimal" amount to produce or the appropriate price to charge.
Argument: monopolists can make consumers worse off. Competition forces people to seek better and more efficient means of production.
But how should competition be defined?
Size and number of firms?
Behavior of the firm(s)?
Government Policy: Antitrust laws.
Counter-Arguments: The model of perfect competition (many small firms) has no competition vs.
the behavior of Rivalry.
When should monopoly be considered anti-competitive?
Do antitrust laws actually make markets less competitive?
Again, the real question is (if we are using the standard welfare argument that this is all based on) -- "Are consumers better off if the government prohibits producers and sellers from marketing "inferior" products," from merging, from having 90% or more of a market share in a given point in time, etc.?
"Perhaps antitrust laws are used as a policy tool because they are politically popular, not because they have economic benefits." More on this later - but what's the basic argument?
Argument: The assumption here is that this is a “market” problem, not a government problem. And that the government has the knowledge and ability to make things better.
Government Policy: Keynesian economics – the government budget becomes the primary instrument for fine-tuning the economy: fiscal policy. But also monetary policy too.
Counter-argument: The government is the instrument of instability in markets. Therefore, more government "fine-tuning" actually creates further problems. It is impossible for the government to have the knowledge necessary to "fine-tune" the economy.
Arguments:
1. Inadequate information, discrimination, inequality of opportunity, and monopoly power prevent the distribution that would be reached in the perfect market - and this is not just or fair.
2. Genetically based abilities mean people do not earn these abilities and that is not fair. Reward those with less ability, not with more.
Social security, etc.
"The redistribution of wealth and income has become the major activity of government, supplanting the traditional functions of supplying public goods and controlling externalities (and also defense)."
Government Policy: Tax and redistribute.
Counter-Arguments:
a. Inequality of income isn't necessarily unfair or unjust. Depends upon one's definition of such - for example, one might argue that if the process is fair, so is the outcome. If one works harder than another, they should have more, etc.
The starting point is important - but is it really possible to "even everyone up" before we start the game?
Also - is it possible to "even everyone up" at the end of the game?
b. Experience shows that the political process rarely works to redistribute income in a more "equal" way; politicizing redistribution does not prevent those who do well in the economy from doing even better through the political process.
Argument: Not fair, for example, if one person in a trade has information that the other doesn't have.
All stems from uncertainty.
Assumption: the market will not provide the information of similar quality.
Government Policy: Therefore need the government for weights and measures regulation, government inspections, building regulations.
Counter-arguments: the demand for government regulation most often arises from sellers, not consumers. Regulation is a way for sellers already in the market to use government coercion to restrict competition, choice and opportunities. Does not end up helping consumers, only existing producers. Example: existing interior decorators in Florida want the state to pass a law that says you must have a masters degree in interior design to get a license and "practice" interior design.
Incentives to provide a quality good (to not cheat on an agreement) are higher in the private sector than in the government sector. Again, without competition - consumers are not protected.
Again - must weigh the costs of regulation, etc. against any benefits perceived. And this is no easy task (really not possible -- only pattern predictions).
Do not know what the market would have provided if government had not stepped in. For example, private monitoring companies: Consumer reports, for example. What about the customer review process that is now popular online, etc.
How about Deb's Quality Assurance Company:
Conclusions
"During this century, government responses to perceived market failures have produced steady increases in the sizes of government budgets, regulatory agencies, and legislative staffs. This growth resulted from a faith in government activism: the belief that the government could correct market failures by appropriate regulations, discretionary fiscal policies, and redistribution."
The question is - are we better off because of this? Are the results of this increase in government all intended or are many unintended?