SECTION 4

Government and the macroeconomy

 Chapter 24

The role of government

 Learning objectives
By the end of this chapter you will be able to:
describe the role of government, locally,
nationally and internationally
 24.1 Factors that influence the role of
government
A government plays a larger role in an economy
operating a mixed economic system than one
operating a more market based economic
system. How much the government intervenes
in mixed economies differs according to both
the perceived extent of market failure and how
effective government policy measures are .
 Tip
•

Find out what goods and services the

government provides in the area where you
live
 24.2 The government’s influence on the
local economy
• Some local areas are very dependent on particular
Industries Some of these industries may be state-
owned Industries .In this case, the government will be
making decisions such as how much to produce and
the wages to pay which directly affect the local
community .The industries which are in the private
sector may be subsidised by the government to, for
instance prevent unemployment rising in a relatively
poor area
 24.2 The government’s influence on the
local economy
• Some decisions on economic policies will be taken
at the local level rather than the national level The
extent to which decisions are made at the local level
differ from country to country Local governments
may provide a range of goods and services including
refuse collection libraries, housing and local roads.
To finance these, local governments may impose
some taxes and charges and may receive grants
from the national government
24.3 The functions of government at local
and national levels
The government carries out a range of
functions It is an owner of industries and
assets such as schools and hospitals, a
producer, a regulator, a collector of taxes and
a director of the level of economic activity
The government as a producer
A government may produce products which it
believes are of key importance, the products
that are produced by a natural monopoly.
those which ft thinks are essential and hence
should be available to all and those which the
private sector may under-produce or not
produce.
 Natural monopoly
• A natural monopoly is a monopoly in an
industry in which high infrastructural costs and
other barriers to entry relative to the size of
the market give the largest supplier in an
industry often the first supplier in the market
an overwhelming advantage over potential
competitors .
 The government as a producer
• Most countries seek to ensure that their key
industries survive and do well. Key industries
may be strategic industries or national
champions. In China and France, for instance,
such industries are often run by state owned
enterprises. In Italy, they receive favoured
Loans from banks
 The government as a producer
• In a number of countries, the government also
stops foreign companies from taking them over or
merging with them, such as rail infrastructure
which may be wn or regulated by the government
This Is, in part. to prevent consumers being
exploited by a private sector firm charging a high
price. In addition to produce at a low average cost
a high output may be required and at such an
output, a loss may be Incurred .
 The government as a producer
• A government may also produce essential
products, such as housing, on grounds of
equity and merit and public goods .
Public sector contracts and partnerships
between the public and private sectors
Private sector firms provide a range of products and
services for the public sector. For example, private
sector road building firms construct and maintain
roads for the government in many countries, and
private pharmaceutical firms supply state healthcare
systems with medicines.
In recent years, in more and more countries, the
government is forming partnerships with private sector
firms .
 Public sector contracts and partnerships
between the public and private sectors
• A common form of partnership is where the
private sector initially provides the finance for
a state project such as the building of a
hospital. The private sector firm then builds it
and maintains it for a number of years .The
government rents it and operates it, buying it
back over time
 Public sector contracts and partnerships
between the public and private sectors
• In other cases, the public and private sectors
provide part of a service For instance, private
sector firms may run train operating
companies, whilst the government builds and
maintains the infrastructure.
 Answer
• 1 a A government may subsidise a national
champion and it may impose trade restrictions
on foreign competitors.
B For example, the IT industry in India. It has a
good supply of workers skilled in IT and who
speak English, the main language used in the
global industry.
The government as an employer
The government employs workers and
managers to operate its state-owned
enterprises. Employing people helps a
government to achieve some of its aims for
the economy To reduce unemployment, the
government can employ more workers .
 The government as an employer
• To control rises in prices, the government can
limit wage rises of its own workers and the
prices charged by its enterprises It can also set
an example in terms of employment practice
by. for instance, providing its workers with
good quality training, preventing
discrimination and ensuring good pensions to
its workers.
 Answer
1 a i The state is likely to be prepared to deliver
to remote communities and it is likely to
consider the postal service as an essential
service.
Ii Private sector firms, driven by the profit
motive, may cut costs, which may enable
them to charge lower prices.
 Answer
B Working for a state-owned enterprise may
provide more job security. This is because it
may continue to produce even if it makes a
loss, since the state may subsidise it. Those
working in a state-owned enterprise may also
enjoy good working conditions as the state
may seek to set an example.
24.4 The role of the government at an
international level
Some governments promote free
international trade, allowing firms to export
and import what they want. Other
governments place restrictions on what can be
purchased from and sold to other countries.
 Multinational companies
• Governments also vary in their policies towards
foreign multinational companies (MNCs) wanting
to set up in their countries .Some governments
seek to attract them believing they will generate
jobs and increase the output that is produced. We
the country Other governments stop foreign MNCs
setting up In their countries as they think they will
drive domestic firms out of business.
 Members of trade blocs
• Some governments are also members of trade blocs such as
the European Union (EU) and Mercosur (a Latin American
trade bloc) Trade blocs promote trade between the
member countries and may restrict trade with non-
members. In addition, governments belong to international
organisations .For instance, in 2016 there were 164
member countries of the World Trade Organisation (WTO).
The WTO deals with global rules of trade between member
countries. Its main aim is to promote free international
trade .
 Answer
2 a Books, computers and furniture.
B Increasing annual leave may make workers less
tired and more motivated. This would be likely to
increase their productivity. If the increase in output
per hour is greater than the loss of output on the
days of extra leave, the country’s output will
increase. Reducing discrimination is likely to mean
that the most productive workers are employed.
C For example, Indonesia is a member of ASEAN
(Association of Southeast Asian Nations).
Multiple choice questions
Multiple choice questions
Multiple choice questions
Multiple choice questions
 Answer
• 1B
• In a natural monopoly, the start-up costs can
be high, average cost can fall over a large
output. This is why it is most efficient to have
just one firm in the industry.
• 2D
• In a planned economy, most people work for
state-owned enterprises.
 Answer
• 3B
• Limiting public sector wages will reduce price rises, if products are
produced by state-owned enterprises. It may also keep down wage
rises and hence the prices in the private sector. This is because
firms in the private sector will be able to attract workers without
having to raise wages significantly. Keeping down public sector pay
rises may protect employment. Workers are less likely to be made
redundant, in order to keep public expenditure under control.
• 4B
• Most people in a planned economy are employed in the public
sector whereas a market economy will have a relatively small
public sector.
 Four-part question
a Define a private good. (2)
b Explain two reasons why a government may run
hospitals. (4)
c Analyse how the level of government intervention
vanes according to the type of economic system
countries operate (6)
d Discuss whether or not the government of a
country with a large industry producing cigarettes
should ban the production of cigarettes. (8)
 Answers
A A private good is rival and excludable. One
person consuming the product will stop
someone else consuming the product.
Consumption of the product can be made
dependent on payment and so free-riders can
be excluded.
 Answers
B A government may run hospitals to ensure that
everyone has access to the essential services. It
is likely to provide these services free of cost or
at a reduced price, whereas private sector health
care providers may charge a higher price. It may
also run hospitals to encourage everyone to
make sufficient use of these services. Healthcare
tends to be under consumed if left to market
forces, as it is a merit good.
 Answers
C Government intervention is at its highest in countries
operating a planned economic system where most
capital and land is owned by the government and most
workers are employed in state-owned enterprises.
Government intervention is at its lowest in countries
operating a market economic system. In these
countries, market forces allocate most of the
resources. The level of government intervention in
countries operating a mixed economic system comes in
the middle between the level in a planned and a
market economic system.
 Answers
D There are arguments for a government banning the
production of cigarettes. A strong one is that cigarettes
are a demerit good. They generate higher private costs
on consumers than they may realise. As well as the cost
of purchasing cigarettes, smoking can damage the health
of smokers. The production and consumption of
cigarettes can also generate external costs. Non-smokers’
health may be damaged by inhaling the smoke, their
medical treatment may be delayed because smokers are
being treated and they may have to pay higher taxes to
finance the medical treatment of smokers.
 Answers
The factories producing the cigarettes may also
cause air pollution. If a government thinks that
other governments may ban or restrict the
consumption of cigarettes, it may decide that
the industry will decline in the near future and
this might strengthen its view to ban its
production.
 Answers
Some people may argue about the extent to
which cigarettes are a demerit good. They may
suggest that consumers are informed about
the risks of smoking and they should be
allowed to judge whether the pleasure they
gain from smoking is greater than the risks
involved.
 Answers
A government would also be concerned that a ban
that would force the closure of a large industry
would reduce the country’s output and
employment. These costs may be experienced
without any benefit, if the closure of the domestic
industry does not reduce the consumption of
cigarettes in the country. What might happen is
that people may smoke the same number
ofcigarettes but just buy them from industries in
other countries.
 Answers
If a government is going to ban the production
of cigarettes, it should think about how the
resources used to produce cigarettes can be
smoothly transferred to other industries. This
may require the government to provide
training to the workers and provide
investment subsidies to speed up the
expansion of growing industries.