3. Government Action A. Describe market failures, and explain why market failure

Question

3. Government Action

A. Describe market failures, and explain why market failures lead to government intervention.

B. Describe transfer payments, and explain how this form of government action is supposed to benefit society.

C. How does government action correct imperfect information? Why is this necessary in a free-market system?

D. What is the government doing when it provides a public good such as national defense?

E. Why does the government impose fines on firms that create pollution as a byproduct of their production?

Explanation / Answer

A. Describe market failures, and explain why market failures lead to government intervention.

Market failure is an economic term that encompasses a situation where, in any given market, the quantity of a product demanded by consumers does not equate to the quantity supplied by suppliers. The government intervention is necessary to bring back the equilibrium through various initiatives taken by the government such as price ceiling, State investment in education and training, Subsidies, information on private benefits etc.

B. Describe transfer payments, and explain how this form of government action is supposed to benefit society.

One-way payment of money for which no money, good, or service is received in exchange. Governments use such payments as means of income redistribution by giving out money under social welfare programs such as social security, old age or disability pensions, student grants, unemployment compensation, etc. Subsidies paid to exporters, farmers, manufacturers, however, are not considered transfer payments. Transfer payments are excluded in computing gross national product.

C. How does government action correct imperfect information? Why is this necessary in a free-market system?

Government corrects imperfect information through investment in education and training. Information failure occurs when people have inaccurate, incomplete, uncertain or misunderstood data and so make potentially 'wrong' choices.

D. What is the government doing when it provides a public good such as national defense?

In economics, a public good is a good that is both non-excludable and non-rivalrous in that individuals cannot be effectively excluded from use and where use by one individual does not reduce availability to others. The economic problem with public goods is that in a free market and or capitalist system the private actors will not invest enough in producing them. For they can’t make a profit out of having done so. Hence, the government must intervene to help the general public.

E. Why does the government impose fines on firms that create pollution as a byproduct of their production?

Pollution is negative externality. A negative externality is a cost that is suffered by a third party as a result of an economic transaction. In a transaction, the producer and consumer are the first and second parties, and third parties include any individual, organisation, property owner, or resource that is indirectly affected. The fines imposed is way to reduce these negative externalities

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