Chapter 24 Notes – Role of Government
Why Governments Intervene
In a purely free market economy, decisions about what, how and for whom to
produce are determined by the price mechanism.
However, markets may fail to allocate resources efficiently or equitably.
Therefore, governments intervene to:
Correct market failure
Provide public goods
Redistribute income
Stabilise the economy
Establish a legal framework for economic activity
Most modern economies are mixed economies, meaning both the private
sector and the government play important roles.
Main Functions of Government
Roles of Government in the Economy
Function Description Examples
Public goods are non-excludable and non-
Street lighting,
Provide public rivalrous. Private firms would not supply
police, national
goods them because they cannot charge users
defence
effectively.
Governments use taxes, subsidies and
Carbon tax,
Correct regulation to reduce negative externalities
vaccination
externalities (e.g., pollution) and encourage positive
programmes
externalities (e.g., education, healthcare).
Income tax,
Redistribute Governments reduce inequality through
unemployment
income progressive taxation and welfare benefits.
benefits, pensions
Governments use fiscal, monetary and
Stimulus spending,
Macroeconomic supply-side policies to achieve stable
interest rate
management growth, low inflation and low
changes
unemployment.
Competition
Legal and Governments enforce property rights,
authorities,
regulatory competition laws, labour laws and
minimum wage
framework consumer protection.
laws
Provide merit Merit goods are under-consumed in a free Public schools,
Function Description Examples
market because consumers underestimate
goods their benefits. Governments subsidise or public hospitals
provide them directly.
Public Expenditure and Taxation
To finance public services, governments raise revenue through taxation.
Types of Taxes:
Direct taxes: Levied on income and profits
o Income tax
o Corporation tax
Indirect taxes: Levied on spending
o Value Added Tax (VAT)
o Excise duties
Progressive tax systems collect a higher percentage from higher-income earners,
helping reduce income inequality.
Governments may also borrow to:
Finance infrastructure projects
Smooth economic fluctuations
Stimulate the economy during recessions
Examples and Applications
Public goods like national defence are funded through taxation because
individuals cannot be excluded from benefiting.
To correct negative externalities, governments impose taxes (e.g., carbon
taxes) to reduce harmful production.
To encourage positive externalities, governments subsidise activities like
education and vaccination.
Redistribution policies in Scandinavian countries reduce inequality through
high taxes and strong welfare systems.
Levels of Government Intervention
Government operates at three levels:
1️⃣ Local Government
Responsible for:
Local infrastructure
Schools
Waste management
Housing
Local transport
Local governments implement national policies but focus on community needs.
2️⃣ National Government
Responsible for:
National defence
Macroeconomic policy
Taxation
Regulation of industries
International trade agreements
National governments have the greatest influence on economic stability.
3️⃣ International Level
Governments cooperate through international organisations and trade
agreements.
Example:
World Trade Organization (WTO) – promotes free trade and resolves trade
disputes.
Governments may also participate in:
Trade blocs (e.g., customs unions and free trade areas)
International monetary and financial institutions
Government Ownership of Industries
In mixed economies, governments may own key industries such as:
Energy
Transport
Water supply
Railways
Reasons for ownership:
Protect strategic industries
Prevent monopoly abuse
Ensure essential services remain affordable
However, state ownership can sometimes lead to:
Inefficiency
Lack of competition
Political interference
Public–Private Partnerships (PPPs)
A Public–Private Partnership (PPP) is a collaboration between the
government and private sector to deliver public services or infrastructure.
Advantages:
Shares financial risk
Encourages efficiency
Brings private expertise
Disadvantages:
Long-term contracts may be costly
Profit motives may conflict with public interest
Government and International Trade
Governments influence trade by:
Promoting Trade:
Reducing tariffs
Joining trade agreements
Supporting export industries
Restricting Trade:
Imposing tariffs
Quotas
Subsidies
Regulations
Trade protection may:
Protect domestic industries
Preserve jobs
Improve trade balance
But may also:
Increase prices
Reduce competition
Cause trade disputes
Trade Blocs and International Cooperation
Countries often join trade blocs to reduce trade barriers.
Example:
World Trade Organization regulates global trade rules.
Benefits of trade blocs:
Larger markets
Specialisation
Economies of scale
Costs:
Loss of some national policy control
Increased foreign competition
Extent of Government Intervention in Mixed Economies
Mixed economies vary in:
Degree of state ownership
Level of taxation
Extent of regulation
Welfare provision
Some economies favour more free-market approaches, while others emphasise
government planning and welfare systems.
Summary
Governments intervene to:
Correct market failures
Provide public and merit goods
Redistribute income
Stabilise the economy
Regulate markets
Promote or restrict international trade
Participate in global organisations
The level of intervention depends on economic ideology and national priorities.
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