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Government Failure
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Government Failure
• Government failure refers to
situations where allocative
efficiency may have been reduced
following government intervention
in markets designed to correct
market failure.
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Government Failure
• When does government step in?
– To correct shortages or surpluses
– To provide when the market does not or can
not
– To regulate and correct where there is
perceived inequality or inefficiency
– To protect individuals and groups in society
and provide a safety net for those unable to
help themselves
– To reduce poverty
– To influence property rights
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Government Failure
• How does government intervene?
– Taxation – to redistribute and provide
incentive or disincentive effects
– Subsidies – to encourage
production/consumption
– Regulation – guides, codes of practice,
legislation, independent regulators
– Identifying property rights – ownership of
property, e.g. intellectual property, granting
of patents, etc.
– Direct provision of goods and services –
health, education, etc.
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Government Failure
• Public Choice Theory:
Subsidies may be designed to correct a perceived
market failure but they do not always please
everyone – public choice?
Title: Czech farmer protest EU accession. Copyright: Getty Images,
available from Education Image Gallery
– Politicians, bureaucrats
and others acting on
behalf of the ‘public’ may
act in their own self
interest as ‘utility
maximisers’.
– The ‘invisible hand’ may
not work in the provision
of public goods.
– ‘Rent seeking’ or ‘Log
rolling’ - two important
concepts.
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Government Failure
• ‘Rent seeking’ or ‘Log rolling’:
– Politics involves a series of trade-offs in public
policy making
– Traditional theory would suggest that decisions will
be made that give the greatest utility to the
maximum number of people
– Rent seeking – where decisions are made leading
to resource allocation that maximises the benefit to
the decision maker at the expense of another party
or parties.
– Log rolling – where decisions may be made on
resource allocation to projects that have less
importance in return for the support of the interested
party in other decision making areas.
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Government Policy
The GM Debate – are decisions made in the
interest of the public at large or for the
benefit of the powerful few? How would we
know?
Title: Government Report on genetically modified crops. Copyright:
Getty Images, available from Education Image Gallery
• e.g. – decisions
made on genetically
modified crops –
were they made on
the basis of the
public interest at
large or to satisfy
the farming lobby,
the health lobby, the
environmental lobby
or the GM business
lobby?
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Government Failure
• Should taxes be raised
extensively on tobacco?
If so what will the
reaction of the tobacco
industry be? Do they
have sufficient power to
influence decision
making?
Image Copyright: Zaid Zolkiffli, Rosika
Voermans (http://www.sxc.hu)
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Government Failure
• How does Government Failure
manifest itself?
– Distortion of markets – e.g. rent
control, minimum wage, agricultural
subsidies, taxes on fuel
– Welfare impact – erosion of
consumer surplus and producer
surplus – e.g. EU tariff support for
manufactured goods and food
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Government Failure
• Disincentive Effects –
– High taxes hampering business
expansion or enterprise
– Welfare benefits reducing the
incentive to find work
• Short termism – solving the ‘hot
topics’ of the day rather than the long
term important issues – e.g. ID cards
versus pension crisis?
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Government Failure
• Electoral Pressure
– Desire to get elected and pass
‘popular’ policies to capture votes
– e.g. spending on public services at
the risk of higher inflation and future
interest rates?
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Government Failure
• Impact on the
environment
– e.g. building
new
motorways
rather than
investing in
public
transport?
Is the real answer to road congestion building more
motorways?
Title: Motorway Intersection. Copyright: Getty Images, available from Education
Image Gallery
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Government Failure
• Regulatory
Capture
– Regulatory agencies
become dominated by
the firms they are
supposed to be
regulating!
The railways – who controls who?
Copyright: Bo de Visser, http://www.sxc.hu
Copyright 2006 – Biz/ed
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Government Failure
• Imperfect information:
• Lack of knowledge of:
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Prices
Value
Costs
Benefits
Long term effects
Behavioural changes
External costs and benefits
Value of producer and
consumer surplus
– all mean less than efficient
allocation may result from
government intervention.
What value can be placed on the destruction of
a natural environment through development?
How do we value aesthetic beauty?
Source: Lynne Lancaster, http://www.sxc.hu
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