Role of Government in the Economy

• The government of any nation plays an indispensable part in the economy.

The main objectives of government intervention:

• prevent the failure of markets

• achieve equitable distribution of income and wealth

• improve the performance of the economy.

Types of Economy

1. Capitalist Economy

2. Socialist Economy

3. Mixed Economy

Capitalist Economy

The main functions of government, as given by Adam Smith (n.d.), are

• maintain law and order in a country

• make national defense stronger

• regulate money supply.

The market system - It administers various economic functions. However, over a period, the functions of government in an economy have increased.

Capitalist Economy

1. Developing and sustaining the free-market mechanism system.

2. Eliminating any kind of restrictions on the working of free competitive market.

3. Increasing the effectiveness of free competitive market system through various measures.

4. Regulating and controlling various economic situations, such as inflation and deflation, by formulating and implementing various fiscal and monetary measures.

5. Controlling the power of monopolistic and large corporations to elude various economic problems, such as unemployment and inequitable distribution of resources.

6. Possessing the ownership of public utilities, such as railways, education, medical care, water, and electricity, which are required by an economy.

7. Prohibiting discrimination among individuals and providing them equal educational and job opportunities.

8. Limiting restrictive trade practices and power of trade unions.

9. Maintaining law and order, administering justice, and safeguarding the freedom of individuals in an economy.

10. Supporting private ventures in an economy.

11. Creating central planning body that helps in the development of an economy on a larger scale.

12. Handling problems to environment, extinction of natural resources, and growth of population.

Socialist Economy

• The government plays a comprehensive role in almost all economic activities, such as production, distribution, and consumption, of a nation. Not only the ownership of private property is allowed to a limited amount, but the concept of free market mechanism is also eliminated.

• The objective of the government in a socialist economy is same as in the capitalist economy, such as growth, efficiency, and maintaining justice. However, over a passage of time, the scope of socialist economy has also been reduced due to various reasons, such as prohibition of profits from private ventures, inadequate utilization of resources, and restrictions on economic development.

Mixed Economy

• In a mixed economy, the private sector is encouraged to work on the principle of the free market mechanism under a political and economic policy outline decided by the government. On the other hand, the public sector, in a mixed economy, is involved in the growth and development of public utilities, which is based on the principle of socialist economy.

• In a mixed economy the public sector comprises certain industries, businesses, and activities that are completely owned, managed, and operated by the government. Moreover, in a mixed economy, certain laws have been enacted by the government to restrict the entry of private entrepreneurs in industries reserved for the public sector.

• Apart from this, the government also strives hard for the expansion of the public sector by nationalizing various private ventures. Besides working for the growth and development of the public sector, the government, in a mixed economy, controls the activities of the private sector by implementing various monetary and fiscal policies.

• It should be noted here that the free-market mechanism is a form of a mixed economy. This is because of the reason that in free market mechanism, both the private and public sectors exist simultaneously.

ROLE OF GOVERNMENT IN A MARKET

• The laissez faire doctrine, which translates as "leave us alone," held that the government should intervene in economic affairs as little as possible and leave economic decisions to the interplay of supply and demand in the marketplace.

Main Functions of Government in a Market

• Efficiency

• Infrastructure

• Equity

• Economic Growth

Efficiency

• The government should attempt to correct market failures like monopoly and excessive pollution to ensure efficient functioning of the economic system. Externalities, or social costs, occur when firms or people impose costs or benefits on others outside the marketplace.

Infrastructure

• Infrastructure, or social overhead capital, refers to those activities that enhance, directly or indirectly, output levels or efficiency in production. Essential elements are systems of transportation, power generation, communication and banking, educational and health facilities, and a well-ordered government and political structure.

Equity

• Markets do not necessarily produce a distribution of income that is regarded as socially fair or equitable. As market economy may produce unacceptably high levels of inequality of income and weather. Government programs to promote equity use taxes and spending to redistribute income toward particular groups.

Economic Growth

• Governments rely upon taxes, expenditures, and monetary regulation to foster macroeconomic growth and stability to reduce unemployment and inflation while encouraging economic growth.

Other Economic Functions of Government in a Market

• Provide and maintain the legal and social structure.

• Maintain the competition.

• Redistribution of income.

• Reallocation of resources.

• Correction for externalities.

• Promoting market and economic stability.

ROLE AND RESPONSIBILITIES OF THE GOVERNMENT IN BUSINESS

Authorities

• Permission to form and operate.

• Creating and enforcing contracts.

• Consumer protection and safety.

• Employee rights and protections.

• Environmental regulations and protection.

• Revenue and taxation.

• Investor rights and protection.

Responsibilities

• Enacting and enforcing laws.

• Maintaining law and order.

• Providing monetary system.

• Balanced regional development and growth.

• Provision of basic infrastructure.

• Responsibilities

• Supply of information.

• Assistance to small-scale industries.

• Transfer of technology.

• Conducting inspections.

• Incentives to home industries.

GOVERNMENT INTERVENTION

• Governments intervene in markets to address inefficiency, to correct market failure, to achieve a more equitable distribution of income and wealth, and to improve the performance of the economy.

Objectives

• Maximizing Social Welfare.

• Macro-Economic Factors.

• Socio-Economic Factors.

• Other Objectives.

Maximizing Social Welfare

• In an unregulated inefficient market, cartels and other types of organizations can wield monopolistic power, raising entry costs and limiting the development of infrastructure. Without regulation, businesses can produce negative externalities without consequence. This all leads to diminished resources, stifled innovation, and minimized trade and its corresponding benefits. Government intervention through regulation can directly address these issues.

Macro-Economic Factors

• Governments also intervene to minimize the damage caused by naturally occurring economic events. Recessions and inflation are part of the natural business cycle but can have a devastating effect on citizens. In these cases, governments intervene through subsidies and manipulation of the money supply to minimize the harsh impact of economic forces on its constituents.

Socio-Economic Factors

• Governments may also intervene in markets to promote general economic fairness. Government often tries, through taxation and welfare programs, to reallocate financial resources from the wealthy to those that are most in need. Other examples of market intervention for socio-economic reasons include employment laws to protect certain segments of the population and the regulation of the manufacture of certain products to ensure the health and well-being of consumers.

Other Objectives

• Governments can sometimes intervene in markets to promote other goals, such as national unity and advancement. Most people agree that governments should provide a military for the protection of its citizens, and this can be seen as a type of intervention. Growing a large and impressive military not only increases a country’s security but may also be a source of pride. Intervening in a way that promotes national unity and pride can be an extremely valuable goal for government officials.

Methods

• Administrative Methods.

• Economic Methods.

Administrative Methods

• State regulation in the conditions provided in the forms of businesses bringing policy targets, centralized distribution of logistical, financial, credit and other resources. State regulation of the market economy is determined by administrative methods that need to solve macroeconomic and social issues in the public interest.

Economic Methods

• The economic methods include budgetary, tax and monetary authorities. The most important method of tax regulation is to apply a differentiated approach to the taxation of enterprises. The essence of monetary regulation is that the state influences the money supply and interest rates, and they in, on consumer and investment demand.

POLITICAL FACTORS AFFECTING A BUSINESS

• The political environment can impact business organizations in many ways. It could add a risk factor and lead to a major loss. Political factors have the power to change results. It can also affect government policies at local to federal level. Changes in the government policy make up the political factors. The change can be economic, legal, or social. It could also be a mix of these factors.

• Political decisions affect the economic environment. Political decisions influence the country’s socio-cultural environment. Politicians can influence the rate of emergence of new technologies. Politicians can influence acceptance of new technologies.

Effects

• Impact on economy.

• Changes in regulation.

• Political stability.

• Mitigation of risk.

Political Factors

• Bureaucracy

• Corruption level

• Freedom of the press

• Tariffs

• Trade control

• Education Law

• Anti-trust or competition law

• Employment law

• Discrimination law

• Data protection law

• Environmental Law Health and safety law

• Competition regulation

• Regulation and deregulation

• Tax policy (tax rates and incentives)

• Government stability and related changes

• Government involvement in trade unions and agreements

• Import restrictions on quality and quantity of product

• Intellectual property law (Copyright, patents)

• Consumer protection and e-commerce

• Laws that regulate environment pollution

INTELLECTUAL PROPERTY RIGHTS AND LEGAL ISSUES

• Intellectual property law is complicated: there are different laws relating to different types of intellectual property, and different national laws in different countries and regions of the world as well as international law.

Types

• Patent

• Trademarks

• Copyright

• Trade secrets

Patent

• A patent is used to prevent an invention from being created, sold, or used by another party without permission. Patents are the most common type of intellectual property rights that come to people’s minds when they think of intellectual property rights protection. A patent owner has every right to commercialize his patent, including buying and selling the patent or granting a license to the invention to any third party under mutually agreed terms.

Trademarks

• A trademark is a distinctive sign which allows consumers to easily identify the particular goods or services that a company provides. Some examples include McDonald’s golden arch, the Facebook logo, and so on. A trademark can come in the form of text, a phrase, symbol, sound, smell, and/or color scheme. Unlike patents, a trademark can protect a set or class of products or services, instead of just one product or process.

Copyright

• Copyright does not protect ideas. Rather, it only covers “tangible” forms of creations and original work – for example, art, music, architectural drawings, or even software codes. The copyright owner has the exclusive right to sell, publish, and/or reproduce any literary, musical, dramatic, artistic, or architectural work created by the author.

Trade Secrets

• Trade secrets are the secrets of a business. They are proprietary systems, formulas, strategies, or other information that is confidential and is not meant for unauthorized commercial use by others. This is a critical form of protection that can help businesses to gain a competitive advantage.

EFFECTS OF GOVERNMENT POLICIES ON BUSINESSES

• Governments establish many regulations and policies that guide businesses. Some rules, like minimum wage, are mandatory, while other policies may influence your business indirectly. Businesses need to be flexible enough to respond to changing rules and policies.

Effects

• Policy as a market catalyst.

• Political stability and political culture.

• Government taxation and spending.

• Setting interest rates.

• Regulations and permits.

Policy as a Market Catalyst

• The government can implement a policy that changes the social behavior in the business environment. For example, the government can levy taxes on the use of carbon-based fuels and grant subsidies for businesses that use renewable energy. The government can underwrite the development of new technology that will bring the necessary change.

Political Stability and Political Culture

• Government policy will always depend on the political culture of the moment. Policy crafted in a politically stable country will be different that formed in an unstable country. A stable political system can make business-friendly decisions that promote local businesses and attract foreign investors. Unstable systems present challenges that jeopardize the ability of government to maintain law and order.

Government Taxation And Spending

• Governments get money to spend from taxation. Increased spending requires increases in taxes or borrowing. Any tax increase will discourage investment, especially among entrepreneurs, who take the risks of starting and managing businesses. Increased spending also eats into the limited pool of savings, leaving less money for private investment.

Setting Interest Rates

• Government policy can influence interest rates, a rise in which increases the cost of borrowing in the business community. Higher rates also lead to decreased consumer spending. Lower interest rates attract investment as businesses increase production.

Regulations and Permits

• Trade regulations, the federal minimum wage, and the requirements for permits or licenses have effects on business. For example, periodic health inspections must be carried out in all restaurants. Businesses might spend a lot of money and time to comply with regulations that ultimately prove to be ineffective and unnecessary. Fair and effective regulations, however, promote business growth.

GOVERNMENT POLICIES AND REGULATIONS AND COMPETITION POLICY

• Conceivably, almost anything and everything the government does, could affect competition. There may not be any conscious, coherent, or concerted policy on competition, but government policy interventions will nonetheless always alter, in varying degrees, for good or bad, the state of competition.

Objectives

• The primary objective is efficiency. That is, competition policy should promote competition as long as it encourages efficiency and growth. At the same time, it should allow for seemingly anti-competitive set-ups and economic regulation where the market fails. In addition, if possible, competition policy should also be made consistent with social objectives. And ultimately, the goal is to increase welfare.

Concepts

• Industry specific regulations.

• Direct government equity participation.

• Other regulatory restrictions.

Industry Specific Regulations

• No government measure and action could have a more direct impact on competition than attempts of the government to directly regulate an industry. And such strong involvement should also require a strong rationale. In general, the government would have reason to intervene in cases of market failure. Industry Specific Regulations

Direct Government Equity Participation

• One reason for direct equity participation could be the promotion of an industry. Such strategy was most widely used during the Marcos administration. The social profitability is considered to be high but due to some distortions (e.g. high private risks), the private sector is not interested to enter the market because it is not privately profitable. This could drive the more efficient private firms out of the market.

• Privatization has been part of the major reforms being implemented since the Aquino administration. For some years, asset privatization has been a source of badly needed revenues. However, although it has been an important source of revenue especially during the initial years, privatization is now viewed more as a tool to encourage competition. This is part of the effort of reforming public enterprises.

Other Regulatory Restrictions

• The other regulatory restrictions could range from explicit restraints to entry (requiring firms to obtain permit or license to operate in a particular market) to stringent procedural and other requirements making entry to a market difficult.