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The Government Intervention In Mixed Economy

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Published: Mon, 5 Dec 2016

An ‘Economy’ can be defined as the ‘Activities related to the production and distribution of goods and services in a particular geographical region’ (InvestorWords.com). A mixed economy, thus, is an economic system that has the participation of both the public and the private sectors. These two sectors are interlinked through market operations (Peddle, p8).

Is the intervention in the mixed economy desirable? Through their experience of economic history of the world, economists have come to the conclusion that the intervention of government is a ‘necessary evil’ in an economy along side the private sector playing its role. In addition to the historical facts, the failure of one of the practitioners of the planned economic system, Russia, and the reinforcement of markets in China also advocate that the best economic system is a mixed economy with some wise government intervention for regulation purposes. Eventually, a government may intervene in an economy to establish and enforce, at first, a legal framework to facilitate the economic interactions within a price system. Secondly, the government intervenes in an economy so that it can adjust market working to promote equity. Thirdly, the government intervenes in a market to reduce the extent of market failure (p8).

The very first reason, why a government has got to intervene in a market is that the market needs smooth operations. The foremost assumption of a regulatory framework of a market economy is the presence of property rights. The government needs to ensure that property rights are protected within the economy and thus the market functioning smoothly. The actual government practices, however, will differ from country to country. Besides this the property rights need to be well defined and made acceptable to everyone. Intellectual property rights, as an extreme example to support the arguments, need definition and protection and the government needs to intervene in the market to make this happen (p9).

Secondly, the government needs to intervene in the market in order to avoid unwanted outcomes or to improve the outcomes of the market. It can be argued that efficient market outcomes may not always be the ‘good’ market outcomes. The free market is deemed to be efficient in terms of ‘Pareto Efficiency’ where one individual can not be benefited without making another worse off. A market, thus may become Pareto efficient yet not good in terms of social welfare. As result the government needs to intervene and make the outcomes yielding optimal social benefits (p11).

Thirdly, a government needs to intervene in a market where the market has failed in terms of efficient resource allocation. In a perfectly competitive market economy the market produces outcome in such a way that the prices at which the goods and services are sold are reflective of the true value of the good and services. The value is also reflective of the willingness of the buyers to pay and the sellers to sell at. These perfections in the markets, however, do not always exist as there are certain imperfections that creep into the market. These include market power, asymmetric information, externalities, discriminations etc (p12). These disparities create an imbalance between the value the buyer is willing to pay and the seller is willing to sell at. This, in turn, results in misallocation and wastage of scarce resources (p13).

In the light of the arguments given above it becomes very clear that a government needs to intervene in an economy in order to allocate scarce resources efficiently to obtain optimum social good.

Question No. 2.1.

According to the passage, car manufacturing is a costly business. Palladium, for example, is a precious metal used in the manufacturing of cars as a catalyst. The use of Palladium, thus, makes it costly for the car manufacturers to produce the cars and reduces the profitability. In the global market, nonetheless, the competition is rising and the car manufacturers are using methods to reduce their cost of production. Therefore, Mazda has announced that it has developed a new technology that will enable it to produce cars using other catalyst instead of Palladium without sacrificing performance. The new catalyst is going to be cheaper and the result would be a reduction in the cost in the car manufacturing process. Consequently, lesser Palladium would be demanded for car manufacturing. As a result, the manufactures would have now to buy the newer technology or use the other catalysts. This will result in a fall in the demand for Palladium which, in turn, will reduce the market price for Palladium. The following graph depicts the same situation:

Figure A. Fall in the Price of Palladium

Quantity of Palladium

Pf

Pi

Price of Palladium

Qf

Qi

S

Di

Df

The demand for Palladium is a derived one- it is derived from the demand of cars. The more the cars are demanded the more Palladium would be demanded (Maunder et. Al, 1990, p.125). The problem is that this factor of production is costly and the manufacturers have announced that the newer technology would enable them to substitute Palladium for a cheaper input. This results in a fall in the demand for Palladium from Di to Df as shown in figure A. The fall in demand results in lesser quantity of Palladium bought by the manufacturers. This fall in demand of Palladium is indicated in figure A via a shift in the demand curve from Qi to Qf. As a result, the price of Palladium also falls from Pi to Pf due to the establishment of new market equilibrium.

Question No. 2.2

Q

Figure B.

Effect of the Technological Change in the Market of Mazda and Nissan Cars

Quantity of cars

Pf

Pi

Price of cars

Qi

Qf

Si

Sf

D

Economic theory tells us that a seller or a supplier is always interested in his profitability. When the profitability of some goods or services rises, a seller tends to supply more of those goods or services. This rise in profitability takes place when the prices of goods and services rise. This gives a signal to the supplier to supply more goods and services in the market- This situation is explained by the well known law of supply (Parkin 1996, p.74). In addition to other factors affecting supply, the fall in the cost of production improves the profitability of the supplier and hence results in an increase in supply. Likewise, improved technology also results in increased supply, primarily because the production method has improved and secondarily because the cost of production has gone down due to the efficiency brought about by the use of new technology (Maunder et al. 1990, 57).

In case of the car manufacturing industry given in the passage, newer technology has enabled Nissan and Mazda to replace the costly input of Palladium with a cheaper one. The result is that the cost of production falls and the supply increases since firms are able to use a cheaper catalyst instead of Palladium. The resulting rise in the supply due to lower cost and better production method is shown in figure B through a shift in the supply curve from Si to Sf. As a result of this shift, the equilibrium in the market is reestablished and the price of the cars falls from Pi to Pf. Besides the fall in the price, the quantity bought and sold in the market increases form Qi to Qf as more and more customers will now buy the cars due to the fall in the prices as indicated by the law of demand (p.49).

Question No.3

New technology is a result of long-term endeavour and sacrifice and normally comes at certain cost. The adoption of technology results in several benefits for an organization. Some of these benefits include efficiency gained from the new technology, innovation and improved output etc. (Hall & Khan 2003, p.8). Moreover, newer technology is also complimented by newer inputs and even newer behaviors (9). The adoption of newer technology may sometimes be costly or difficult due to some non-financial circumstances. Thus along side the want to adopt newer technology, there is also tendency among the producers to ignore the use of new technology. In case of the car industry, non-acceptance of new technology can prove disastrous. The given passage tells us that the car manufacturing industry is globally stretched in several countries, each one trying to develop a comparative advantage over the other. Therefore, one of the ways this comparative advantage may be developed is through the use of better technology. Firms not adopting new technology will suffer loss of sales as well negative- goodwill to their product and brand name. Thus, the use of technology is imperative in the cost industry to reduce prices, improve profits and stay competitive.


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