1.5 Government Failure

Question 1

What is government failure?

Answer 1

• government failure exists when the government intervenes to correct a market failure, but the result is a more inefficient allocation of resources + there is a net welfare loss
• government failure includes disadvantage of the methods of government intervention

Question 2

What is market distortion?

Answer 2

• maximum and minimum prices lead to a position of disequilibrium which is why there are market distortions

Question 3

Examples of market distortion?

Answer 3

• CAP (Common agricultural Policy) - caused an over supply of farm produce — surplus sold at low prices causing a fall in incomes for farmers from other countries outside the EU
• minimum wages causing unemployment - causing an excess supply of labour
• Maximum price can cause shortages e.g. rental market

Question 4

What is law of unintended consequences?

Answer 4

• government may intervene to correct market failure but the intervention leads to other problems not originally thought of
• e.g. increasing tax on cigarettes leads to an increase in the smuggling of tobacco into the UK
• speed camera cause people to speed up + speed down - leading to accidents
• the law of unintended consequences stems from th belief that human beings will always seek to circumvent laws, restrictions, taxes etc.

Question 5

Administrative costs

Answer 5

• sometimes the administrative costs outweigh the welfare benefit from correction of market failure
• e.g. NHS wait list, rodeoing of benefits/universal credit applicants
• excess admin costs can lead to low productivity and value for money
• cost of regulations e.g. employing inspectors

Question 6

Information problems for the government

Answer 6

• governments may suffer from a lack of information when making certain decisions
• e.g. level of tax to correct negative externalities, level of subsidy to encourage production, right maximum price, right minimum price etc
• regulators may suffer from asymmetric information - company may try and withhold information, making it difficult for regulator to assess the company

Question 7

Conflict of objectives

Answer 7

• governments often face conflicting objectives e.g. they ma want to cut taxes but increase spending on health
• every decision has an opportunity cost
• e.g. more money sent on renewable energy means less money sent on health