Presentation on theme: "Government Goals & Policy"— Presentation transcript:
1 Government Goals & Policy Government Intervention:1) Market Failure2) When the market fails to perform in line with the goals that we have for performance then there is a role for government policyEg) equitable distribution of incomewhen markets fail to achieve social goals for equity, government policy is called for; eg, government redistribution programs6
2 Measuring Economic Inequality Poverty:is a situation where a family’s income is too low to be able to buy the quantities of food, shelter, and clothing that are deemed necessary.is a relative concept.In Canada, poverty is measured by using a low-income cutoff.low-income cutoff is the income level at which a family spends 54.7 percent of its income on food, shelter, and clothing.
3 The Sources of Economic Inequality The combination of higher demand and lower supply for high-skilled workers relative to low-skilled workers creates a higher equilibrium wage rate for those workers who have attained greater levels of human capital.
4 Income Redistribution In Canada, governments use three main ways to redistribute income to reduce the degree of economic inequality:Income taxesIncome maintenance programsSocial security programsEmployment Insurance programWelfare programsSubsidized services.educationFight the caricature of capitalism as unfair/heartlessEmphasize that there are no societies where income or wealth is equally distributed. There are two concerns: prosperity and equality. Private enterprise (capitalist) societies are, in general, more prosperous, and are in most cases (but not all) no less equal than socialist societies. Ask which is better for a family, to be the poorest in a rich but unequal society or equal with everyone else in a poor society.We vote for redistribution. Emphasize that we vote for policies that redistribute and we get the redistribution that the majority wants. To get more redistribution, we would need to change the rules about votes and give those who want more redistribution a bigger voice. That idea raises deep and serious questions.
5 Income Redistribution: Leads to “The Big Tradeoff” between equity and efficiencyIncome redistribution can be inefficient for three reasons:The process of redistribution uses resourcesTaxes create deadweight lossTaxes weaken the incentive to work, save, and investThe Big TradeoffEmphasize that there is an opportunity cost to redistributing income in any society—when a dollar is taken from a rich person, a poor person receives less than a dollar. The size of the economic pie shrinks because:• Productive resources are used to implement the program rather than produce goods and services,• Redistribution requires taxations, which imposes a dead weight loss to society, and• The incentives facing the recipient of supplemental income are altered, delaying re-entry into the work force.
6 Government Goals & Policy Ensure an equitable distribution of incomewhen markets fail to achieve social goals for equity, government policy is called for; eg, government redistribution programsEnsure the legal frameworkProvide a legal systemDefine property rightsEstablish legal rules of behaviourEnsure economy wide stability & growthMacro economic policy6
7 Economic Functions of Government Ensure efficiencyMarkets sometimes fail to achieve “efficiency” in the use and allocation of society’s resources Government policy action when…..Markets Fail: 1.) Imperfect CompetitionMarket failure occurs if markets are not competitive regulation of monopoly anti-combines legislation7
8 Market Failure: 2.) Public Goods Market failure occurs when markets fail to provide Public GoodsPrivate Goods: can be consumed by only one individual at a time: are both rival and excludablePublic goods: can be consumed simultaneously by everyone, that is, no one can be excluded once the good is produced, & no one’s consumption reduces the amount available for another.
9 Market Failure: Public Goods 1) NonrivalConsumption by one person does not decrease consumption by another.Television show2) NonexcludableIt is impossible, or extremely costly, to prevent someone from benefiting from the good once it is produced.National defence
10 Market Failure: Public Goods Since people enjoy the benefits without paying, markets fail to produce public goods government provision e.g.fireworksnon excludable free ridersa free rider is a person who receives the benefit of a good but avoids paying for it.Public goods create a free-rider problem because the quantity of the good that a person is able to consume is not influenced by the amount the person pays for the good...so why pay anything at all?
11 Public GoodsThe marginal benefit of a public good to an individual is the increase in total benefit that results from a one-unit increase in the quantity provided. The marginal benefit of a public good diminishes with the level of the good provided.Everyone can consume each unit of a public good, which means the marginal benefit for the economy is the sum of marginal benefits of each person at each quantity.
12 Benefits of a Public Good Lisa's Marginal BenefitFigure shows how the marginal benefits of a public good are summed at each quantity of the good provided.Part (a) shows Lisa’s marginal benefit.Part (b) shows Max’s marginal benefit.10MBLMarginal benefit$86412345Quantity (number offireworks displays)Marginal benefit$Max's Marginal Benefit8MBM6412345Quantity (number of fireworks displays)22
13 Benefits of a Public Good Economy's Marginal BenefitThe economy’s marginal benefit of a public good is the sum over the individuals at each quantity of the good provided.The economy’s marginal benefit curve for a public good is the vertical sum of each individual’s marginal benefit curve.18 MB14Marginal benefit $1012345Quantity (number of fireworks displays)26
14 Market Failure: Public Goods Efficient Provision Government should provide the efficient quantity of a public good: up to the point where :MB = MC, ie. MSB=MSCAt the efficient quantity, the marginal social benefit for the community is equal to the marginal social cost for the community.
15 The Efficient Quantity of a Public Good The marginal benefit curve, MB, is the one we derived = MSB.The marginal cost curve, MC, is just like the MC curve for a private good.The efficient quantity is where marginal benefit equals marginal cost.Marginal Benefit & Marginal CostMC=MSC MB=MSBMarginal benefitEfficientuse ofresourcesMB1Quantity (number of fireworks displays38
16 Market Failure: 3.) Externaility Market failure occurs when all the relevant costs and benefits are not registered by the marketExternality:Cost or Benefit resulting from some activity or transaction that is imposed on parties outside the activity or transaction; that is not registered by the market
17 Externalities: Positive and Negative Market transactions reflect individual consumer and firm marginal private benefits and marginal private costs respectively.Efficiency requires:the marginal social benefit and the marginal social cost be equalized.If MPC¹MSC &/or MPB¹MSB, then markets will fail to achieve efficiency
18 Market Failure: External Benefits With external benefits:1) More shots are givenat a higher price2) Demand shifts to D2D2SD1D1P2Q2E1P1Q1EWithout external benefitsregistered:1) Too few influenza shotsare given2) Demand = D1Price of Flu ShotsQuantity of Flu Shots per YearToo little is produced, price too low when external benefits are not accounted for in the market4
19 Market Failure: External Costs MSCMPCMSBAQ2P2E1Internalize external cost:1) Steel mill pays thethe cost of pollution2) Supply shifts to S2Price of Steel per TonneP1EQ1Private costs only1) Residents incur costof pollution2) Supply = S1Quantity of Steel per YearToo much produced, price too low when external costs are not accounted for in the market: third parties bear part of the costs3
20 Negative Externalities: Pollution Pollution is an old problem and is faced by both rich industrial countries and poor developing countries.It is an economic problem that is coped with by balancing benefits and costs, using policies that internalize the external costs of production.
21 Negative Externalities: Pollution Public Policy For Externalities in the case of Pollution 1.)Regulation (command and control)2.)Taxes (negative externalities)3) Subsidies (positive externalities)Tax equal to the marginal external costs. In equilibrium then P = MSC.The company with the lowest cost of reducing pollution, will choose to reduce, to avoid the tax
22 Public Policy: Tax = External Cost S2 SMC (including externalities)Supply of Good Xwhen costs =social costS1 = SMC (excluding externalities)DP1Q1Tax=External Costof PollutionQ2P2Price of Good X per UnitSupply of Good Xwhen costs includeonly internal costsQuantity of Good X per Time PeriodIn the case of a negative externality, the efficient amount of production is achieved through a tax=external costs
23 External Costs: Public Policy: Tax Taxes provide incentives for producers or consumers to cut back on an activity that creates external costs.Taxing an externality does not eliminate all pollution. Taxes force decision makers to consider the full costs of their decisions: internalize the externality.
24 External Costs: Public Policy: Tax Taxes, have two advantages over regulation because of their incentive effects:they give owners an economic incentive to reduce pollution – avoid the tax,they bring about a given amount of pollution reduction in the most efficient – least costly – way possible.
25 Public Policy: 3.) Emission Charges MSC15MBAt an emission level of 15MTonnes MSC($15) > MB($7)Cost and benefit of waste(dollars per tonne)10Efficient price $10per tonne at efficient qn of10M Tonnes/yr75101520Emissions (millions of tonnes per year)
26 External Costs: Public Policy: Marketable Permits 4)Tradable Pollution RightsTrading pollution rights in essence creates a new scarce resource - pollution permits.The price will be set by the forces of demand and supply.The firms that can reduce pollution only at high cost will be willing to pay the most for pollution permits, others will reduce pollution for less cost.Priceofoltn $Supply Pollution PermitsD Pollution PermitsQn (pollution)
27 Optimal Amount of Pollution MSC15MSBSociety’sMSC & MSBofPollutionAbatementOptimal(social)amount ofpollution10Efficient Price720406080Amount of pollution abatement %