Chapter 15:
The government sector
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
CHAPTER OUTLINE
LEARNING OUTCOMES
15.1 THE GOVERNMENT OR PUBLIC SECTOR
15.2 THE ROLE OF GOVERNMENT IN THE ECONOMY: AN OVERVIEW
15.3 MARKET FAILURE (AS JUSTIFICATION FOR GOVERNMENT INTERVENTION)
15.4 FURTHER REASONS FOR GOVERNMENT INTERVENTION IN THE ECONOMY
15.5 HOW DOES GOVERNMENT INTERVENE?
15.6 GOVERNMENT FAILURE
15.7 NATIONALISATION AND PRIVATISATION
15.8 FISCAL POLICY AND THE BUDGET
15.9 GOVERNMENT SPENDING
15.10 FINANCING OF GOVERNMENT EXPENDITURE
15.11 TAXATION
15.12 TAX INCIDENCE: WHO REALLY PAYS THE TAXES?
IMPORTANT CONCEPTS
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
LEARNING OUTCOMES
Once you have studied this chapter you should be able to
• explain why government participates in economic affairs
• describe how government intervenes in the economy
• explain why governments, like markets, can fail
• distinguish between nationalisation and privatisation
• explain what fiscal policy means
• discuss government spending and the financing of such spending
• discuss the criteria for a good tax
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
LO: explain why government participates in economic affairs
15.1 THE GOVERNMENT OR PUBLIC SECTOR
Figure 15-1 The composition
of the public sector
(Textbook page 276)
PUBLIC SECTOR
GENERAL
GOVERNMENT
Central government
(e.g. national
government
departments)
Provincial government
Local government
Public corporations
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
THE GOVERNMENT OR PUBLIC SECTOR
Figure 15-2 The interaction between
government and households and firms
(Textbook page 277)
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
LO: explain why government participates in
economic affairs
LO: explain why government participates in economic affairs
15.2 THE ROLE OF GOVERNMENT IN THE
ECONOMY: AN OVERVIEW
What is the appropriate division between government and the market?
• Private initiative and market forces are generally more efficient
• Free markets cannot function properly without government enforcement of
contracts
• Government intervention may be necessary to correct market failure
• Market systems often do not produce equitable outcomes
Equity
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
Efficiency
LO: explain why government participates in economic affairs
LO: describe how government intervenes in the economy
15.3 MARKET FAILURE (AS JUSTIFICATION
FOR GOVERNMENT INTERVENTION)
Market failure occurs when the market system is unable to achieve an
efficient allocation of resources.
Five cases of market failure:
• Monopoly and imperfect competition
• Public goods
• Externalities
• Asymmetric information
• Common property resources
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
MARKET FAILURE
(AS JUSTIFICATION FOR GOVERNMENT INTERVENTION)
LO: explain why government participates in economic
affairs
LO: describe how government intervenes in the
economy
Monopoly and imperfect competition
Possible responses to the existence of the market power of monopolists and
oligopolists
1) Do nothing
2) Impose price control
3) Tax the full excess profits
4) Through competition policy
And in a natural monopoly?
1) Government regulates private production
2) Government undertakes production
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
MARKET FAILURE
(AS JUSTIFICATION FOR GOVERNMENT INTERVENTION)
LO: explain why government participates in economic
affairs
LO: describe how government intervenes in the
economy
Public goods (or non-private goods)
Table 15-1 Four types of good (Textbook page 279)
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
LO: explain why government participates in economic
affairs
LO: describe how government intervenes in the
economy
MARKET FAILURE
(AS JUSTIFICATION FOR GOVERNMENT INTERVENTION)
Externalities
The external costs and benefits of a transaction or activity that are carried
or enjoyed by parties not directly involved in the transaction or activity.
Figure 15-3 Negative
externalities in a perfectly
competitive market (Textbook
Externalities
page 281)
Click to
edit
Master
title
style
External costs
=
Negative externalities
External benefits
=
Positive externalities
Marginal social cost > Marginal
private cost
Marginal social cost < Marginal
private cost
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
MARKET FAILURE
(AS JUSTIFICATION FOR GOVERNMENT INTERVENTION)
Externalities
LO: explain why government participates in economic
affairs
LO: describe how government intervenes in the
economy
Figure 15-3 Negative externalities in a perfectly competitive market (Textbook page 281)
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
MARKET FAILURE
(AS JUSTIFICATION FOR GOVERNMENT INTERVENTION)
LO: explain why government participates in economic
affairs
LO: describe how government intervenes in the
economy
Asymmetric information
Figure 15-4 Asymmetric
information in a goods market
(Textbook page 282)
See Box 15-1 MORAL HAZARD AND ADVERSE SELECTION (Textbook page 283)
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
MARKET FAILURE
(AS JUSTIFICATION FOR GOVERNMENT INTERVENTION)
LO: explain why government participates in economic
affairs
LO: describe how government intervenes in the
economy
Common property resources
Click to
edit
Master
title
style
Consumption
Exclusion
Rivalrous
Non-excludable
Fisheries (fish in the ocean
Other marine resources
Wildlife
Air
Rivers
The environment
Common grazing land
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
LO: explain why government participates in economic affairs
LO: describe how government intervenes in the economy
15.4 FURTHER REASONS FOR GOVERNMENT
INTERVENTION IN THE ECONOMY
• Income distribution
• Macroeconomic growth and stability
• Merit goods
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
FURTHER REASONS FOR GOVERNMENT INTERVENTION IN
THE ECONOMY
LO: explain why government participates in economic
affairs
LO: describe how government intervenes in the
economy
Summary
Three broad functions of government:
• Allocative
• Distributive
• Stabilisation
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
LO: describe how government intervenes in the economy
15.5 HOW DOES GOVERNMENT INTERVENE?
What instruments can government use to intervene?
1. Public provision of goods and services
2. Through its role as a market participant
3. Through government spending
4. Through taxation
5. Through regulation
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
LO: explain why governments, like markets, can fail
15.6 GOVERNMENT FAILURE
Two broad groups of public officials:
• Politicians
• Bureaucrats
Three primary sources of government failure:
1) The behavior of vote-maximizing politicians
2) The behavior of bureaucrats and the lack of competition
3) Rent seeking
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
LO: distinguish between nationalisation and privatisation
15.7 NATIONALISATION AND PRIVATISATION
Nationalisation – The transfer of ownership from private enterprise to
government
Privatisation – The transfer of assets from the public sector to the private
sector
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
LO: explain what fiscal policy means
15.8 FISCAL POLICY AND THE BUDGET
Fiscal policy – A policy in respect of the level and composition of:
• Government spending
• Taxation
• Government borrowing
The main instrument of fiscal policy is the budget.
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
LO: explain what fiscal policy
means
FISCAL POLICY AND THE BUDGET
Demand management
Fiscal policy
Budget
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
Monetary policy
LO: discuss government spending and the financing of such spending
15.10 FINANCING OF GOVERNMENT
EXPENDITURE
Government spending financed by:
• income from property
• taxes
• borrowing
Borrowing (to finance budget deficit):
• domestic capital markets (government bonds)
• international capital market (government bonds)
• central bank (SARB) (inflationary financing)
Borrowing increases public debt and interest on public debt
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
15.11 TAXATION
LO: discuss the criteria for a good tax
Criteria for a good tax
What is good tax?
• Neutral:- tax has to be kept as low as possible
:- taxation should have the minimum possible effect on the relative
price
• Equitable:- ability to pay principle (mean that people should pay according
to their ability
– Horizontal equity
– Vertical equity
• Administrative simplicity:- compliance cost and administration costs should
be kept as low as possible
- TAX AVOIDANCE
Click to
edit
Master
title
style
TAX EVASION
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
TAXATION
LO: discuss the criteria for a good tax
Click on the type of tax to reveal more information.
Click again to hide.
Different types of taxes
DIRECT
OR
INDIRECT
PLUS
OR
GENERAL
SELECTIVE
PLUS
PROGRESSIVE
PROPORTIONAL
OR
REGRESSIVE
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER
DEMAND AND
SUPPLY IN ACTION
Levied
on5:persons,
more
• excise duties
Click to
edit
Master
title
style
OR
TAXATION
LO: discuss the criteria for a good tax
Click on the type of tax to reveal more information.
Click again to hide.
Different types of taxes
DIRECT
Levied on persons, more
specifically the income or
wealth of individuals
and
GENERAL
organisations companies.
Examples:
• personal income tax
• PROGRESSIVE
company tax
OR
• estate duties
Click to
edit
Master
title
style
OR
PLUS
OR
INDIRECT
Levied on transactions and are
usually paid by those who
consume the goods and services
inSELECTIVE
question.
Examples
PLUS • VAT
• customs duties
ORduties REGRESSIVE
PROPORTIONAL
• excise
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
TAXATION
LO: discuss the criteria for a good tax
Different types of taxes
Click on the type of tax to reveal more information.
Click again to hide.
Levied on persons, more
Levied onThe
transactions
ratio between
and are
tax
PLUS
The ratio of tax
specifically the income orThe ratio of tax paid
usually paid
those
who
paidbyand
taxable
paid to taxable
wealth of individuals andto taxable incomeconsume
is
income
the goods
decreases
and services
as
OR
income increases GENERAL
organisations companies.the same at all inSELECTIVE
question.
taxable income
as taxable income
levels of income.
increases (or rises as
increases.
Examples:
Examplestaxable income falls).
Levied on most goods andExample:
services.
on specific goods only.
PLUS Levied
•Example:
personal income tax
• VAT
• Company tax Example:
Example:
Example:
•• Personal
companytax
tax
• customs
duties
• VAT REGRESSIVE
OR
OR
PROGRESSIVE
PROPORTIONAL
• • VAT
• •Excise
duties
estate duties
excise
duties
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
TAXATION
LO: discuss the criteria for a good tax
Three main taxes in South Africa:
1
Personal income tax
2
Company tax
3
Value-added tax (VAT)
Click to
edit
Master
title
style
Click on the number to reveal more information.
Click again to hide.
• Personal income tax
– Taxable income (tax base)
– Marginal
• Company
tax tax rate and average
(or effective)
tax rate
– Company
profits
(tax base)
– Direct taxtax
• Value-added
–
Progressive
Proportional
tax
– Indirect
tax tax
–
Includesindex
capital gains tax
– General
– Regressive tax
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
15.12 TAX INCIDENCE: WHO REALLY PAYS
THE TAXES?
All taxes are paid by individuals
Click to
edit
Master
title
style
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
IMPORTANT CONCEPTS
•
•
•
•
•
•
•
•
•
•
•
•
•
•
Click to
edit
Master
title
style
General government
Public sector
Market failure
Public goods
Rivalry
Excludability
Mixed goods
User charge
Externalities
External costs
External benefits
Asymmetric information
Principal–agent problem
Moral hazard
•
•
•
•
•
•
•
•
•
•
•
•
•
•
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
Adverse selection
Common property resources
Tragedy of the commons
Business cycle
Macroeconomic policy
Fiscal policy
Merit goods
Government spending
Transfer payments
Taxation
Regulation
Government failure
Rent-seeking
Nationalisation
IMPORTANT CONCEPTS
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
Click to
edit
Master
title
style
Privatisation
Budget
Demand management
Expansionary policy
Contractionary policy
Lags
Budget deficit
Inflationary financing
Public debt
Interest on public debt
Tax neutrality
Horizontal equity
Vertical equity
Benefit principle
Tax avoidance
Tax evasion
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 5: DEMAND AND SUPPLY IN ACTION
Direct taxes
Indirect taxes
General tax
Selective tax
Progressive tax
Proportional tax
Regressive tax
Taxable income
Marginal tax rate
Average tax rate
Bracket creep
Capital gains tax
Value-added tax
Tax incidence
Statutory incidence
Effective incidence