1.4.2 Government failure Flashcards
Define government failure
When government intervention leads to a misallocation of resources and a net welfare loss to society
Causes of government failure
- distortion of price signals
- unintended consequences
- excessive administrative costs
- information gaps
Distortion of price signals (government failure)
When government intervention leads to a disequilibrium of prices
Examples of price signal distortion
- income tax: can become a disincentive to work (harder), as they may have to pay more income tax
- price ceilings/floors: often causes excess demand or supply in the market
- subsidies: firms may become reliant, less efficient and less competitive as they have less incentive
Unintended consequences (government failure)
When something other than the intention of the policy put in place happens
Examples of unintended consequences
- tax on rubbish disposal: increase in fly-tipping, which produces negative externalities
Excessive administrative costs (government failure)
The process of enforcing policies, organising them and policing them can be very time consuming and expensive for the government (e.g. opportunity cost, legal work, restrictions, red-tape, bureaucracy)
Information gaps (government failure)
Imperfect information can mean that it is difficult to assess the extent of market failure, meaning it is hard to put a value on the intervention that is needed to correct it (could be inefficient) as the government may not always know how the population wants resources to be allocated and they don’t know how consumers will react to certain policies
Examples of government failure in various markets
- subsidies for public transport: inferior good
- fishing quotas aiming to prevent overfishing: quotas set too high
- road congestion schemes to reduce traffic/pollution: hard to work out an optimal charge
- maximum rents in housing markets: can cause a shortage and black markets to develop
