Government Intervention: An Introduction (AQA A Level Economics)

• Nearly every economy in the world is a mixed economy and has varying degrees of government intervention
• One of the main reasons that governments intervene in markets is to correct various market failures

Diagram: Reasons for Government Intervention 

Government intervention in mixed economic systems

1. To correct market failure

• In many markets, there is a less than optimal allocation of resources from society's point of view, resulting in market failure
• Market failure can occur for a number of reasons, e.g. externalities, overconsumption of demerit goods or monopoly power
• In maximising their self-interest, firms and individuals will not self-correct this allocation of resources and there is a role for the government
• To prevent market failure, a government can intervene to improve the economic performance of firms and markets and influence the level of production or consumption

2. Redistribute income and wealth 

• Intervention seeks to achieve a more equitable (fairer) distribution of income and wealth to improve lives of citizens
• Taxing the rich to support poorer households can reduce poverty and have impacts on individuals and the economy

3. Support firms 

• In a global economy, governments choose to support key industries so as to help them remain competitive

4. Collect tax revenues 

• Governments need money to provide essential services, public goods and merit goods
• Services can be paid for with revenue raised through interventions such as taxation, privatisation, sale of licences (e.g. 5G licences), and sale of goods/services

5. Achieve macroeconomic objectives 

• Macroeconomic objectives are centred on improving the overall performance of the economy and living standards for the population as a whole
• Government intervention in markets can influence economic stability and promote economic growth
• E.g By providing essential public health services, the government can improve the health and therefore, living standards of citizens

• Government (state) involvement aims to improve the efficiency of markets by altering the allocation of resources
• The level and type of intervention used depend on the government's macroeconomic objectives
  • Free-market economists argue that government intervention should be limited to all but the most basic services such as the provision of national defence
  • Other economists argue that the government should intervene in all areas of the economy to ensure the most efficient and equitable distribution of resources

• There are a number of ways in which governments can intervene to correct market failure and influence the allocation of resources
• The microeconomic and macroeconomic objectives of a government also affect how governments intervene in an economy
• Governments can implement market-based and non-market based policies
• Market-based policies involve the government taking action to affect the conditions of supply or demand and therefore price and output, e.g. by offering subsidies
• Non-market based policies occur when the government directly intervenes in the market, e.g. by legally enforcing regulations such as smoking bans or direct state provision (e.g. NHS)

Diagram: Common Types of Intervention to Correct Market Failure

Ways in which governments correct market failure

• The main ways in which governments intervene are classified as:
  • Public expenditure
  • Taxation
  • Price controls
  • Legislation and regulation

Examples

• The UK government provides subsidies to consumers to purchase electric vehicles
  • The subsidy lowers the relative cost and may incentivise consumers to purchase an electric car. If there is increased demand, producers may allocate more resources to producing these goods
    
    
• The UK government has set a price cap (maximum price) that energy suppliers can charge consumers for a unit of energy. This is to ensure that energy prices are fair
  • The Office of Gas and Electricity markets (OFGEM) regulates this market