1. Government and Business – Policies, Market failures
7th of April

2. Key issues Market Failure Public Goods Externalities
Competition policy;
Policies towards research and development;
Training policies;
Environmental policy;
Transport policy;
Privatisation.

3. Market Failure
Market Failure – “A condition that arises when unrestrained operations in the markets yield socially undesirable outcomes”
What do governments do to prevent market failure?
Establishing and Enforcing the Rules of the game
Market efficiency depends on people using your resources to maximize your utility.
Promoting Competition
Preventing firms from colluding.
Regulating Natural Monopolies
Natural monopolies – when one first serves the market at a lower cost than other firms. (and charges a higher price than socially optimal)
Providing Public Goods

4. What is a Public Good
A public good is a good that is non-rival and non excludable.
Non-Rival – Means consumption of the good by one person does not reduce the availability of the good for others.
Non Excludable – means that no one can effectively be excluded from using the product
Examples: Air, Mp3 Songs, Youtube
Taxes are used to pay for public goods!
Excludable
Non-Excludable
Rivalries
Private goods – Food, Clothing Cars
Common Goods –
Fish Stocks, timber
Non-Rivalries
Club Goods – Cinema, Private parks, satellite television
Public goods –
National TV, Defense

5. Externalities Dealing with Externalities
Externality – a cost or benefit that falls on a third party and therefore ignored by the two parties to the market transaction.
Negative externalities - pollution
Positive externalities – beautification of the neighborhood
Market prices do not reflect externalities
Governments use the items below to discourage negative externalities and promote positive positions
Taxes
Subsidies
Regulations

6. Competition Policy
Classical economic theories assume that markets are efficient and that a market system enables competition and innovation
Classical and neo-classical economists believed on the limiting roles of Government
In practice, markets may not operate efficiently and governments extensively regulate markets to encourage competition

7. Competitive policy
Do you think that market power is always ‘a bad thing’?
Producer viewpoint -
make supernormal profit, but how large this can be!
even with Monopolist can still charge a lower price due to economics of scale
more R&D
Consumer viewpoint
Government concern is that whether the ‘market power’ goes against the public interest

8. Competitive policy Three possible targets of competitive policy
Monopoly policy – the abuse of the existing power of monopolies and oligopolies
Merger policy – the growth of power through mergers and acquisition
Restrictive practices policy – oligopolistic collusion

9. Policies towards Research and Development
Technology policy
Technology policy involves government initiatives to affect the process and rate of technological change and its rate of adoption
Targets of technology policy
Invention – new ideas, new products
Innovation – new ideas are implemented in practice
Diffusion – new technology spreads throughout the economy

10. Policies towards Research and Development
Technological change and market failure
R&D free riders – property right can protect this
monopoly power – monopoly may not conduct R&D in the presence of high market power
Duplication – resources may be wasted in duplicating research
risk and uncertainty – payoffs from R&D are so uncertain

11. Research and development by sector
Source: Based on data from 2011 EU Industrial R&D Investment Scorecard, (European Commission)

12. R&D intensity
Source: Based on data from Eurostat, Science and Technology Database, (European Commission) 12

13. Policies towards Research and Development
Forms of intervention
the patent system
public provision
R&TD subsidies
co-operative R&D
diffusion policies
other policies

14. Policies towards Training
Training and economic performance
labour productivity
productivity gap between countries partly depends on differences in skills
innovation and change
importance of adaptability and skills of the workforce
costs of production
skills shortages create labour bottlenecks and increase production costs

15. Policies towards Training
Training policy
approaches to training policy
encouraging workers to stay with their employer
subsidies for training
industry-wide training programmes by firms
publicly provided training
partnerships between government and firms

16. Environmental Policy
Pollution could be classified as a ‘negative externality’ of production and consumption
Production – marginal social costs (MSC) are greater than the marginal private cost to the polluter
No charge on the producer for use of air and rivers means that environment is a free good – encourage overuse
This is role of the Governments to ensure minimum
environmental quality

17. Global CO2 emissions, 1900 to 2010
Source: Carbon Dioxide Information Analysis Centre (2012)

18. Environmental Policy Environmental policy options
market-based policy: market-based policies attempt to internalise the cost of externality, and ensure that the polluter pays.
Indirect taxes on specific types of polluting activity , such as green tax
Tax should be equal to marginal external cost to achieve a socially efficient output

19. Environmental Policy Problems with using taxes
difficulty in identifying socially efficient tax rate
problems with demand inelasticity
redistributive effects
problems with international trade
effects on employment
uses of green taxes in various countries

20. Environmental Policy Non-market-based policy:
Command – and- control (CAC) systems: The use of laws or regulations backed up by inspections and penalties for non-compliance
approaches to devising CAC systems
technology-based standards – based on best available pollution control strategy
ambient-based standards - based on minimum standards for the environment
social-impact standards – focuses on the effects on people (e.g., health or happiness)

21. Transport Policy Traffic congestion is a challenge for all nations
adds costs and stress of modern living
The allocation of road space
demand for road space
a derived demand – to get to the destination
determinants of demand – price, maintenance cost, income etc.
the price and income elasticities of demand
Price of substitutes/complements
Complementary service, e.g., parking 2

22. Increase in car ownership in various European countries
Cars per thousand population
Source: based on data in Energy and Transport in Figures (EC, 2009)

23. Transport Policy Policy 1: direct provision
the road solution - more roads
public transport
Policy 2: regulation and legislation
restricting car access
bus and cycle lanes
no entry to side streets
pedestrian-only areas
parking restrictions 4

24. Transport Policy Policy 3: changing market signals
extending existing taxes
road pricing
variable tolls
area changes / supplementary licences
electronic road pricing
experience of London and Singapore
subsidising alternative means of transport 5

25. Privatization
Privatization is the process of transferring owner of a business, enterprise, agency or public service from the public sector to the private sector
Pros
Performance
Increased Efficiency
Specialization
Less Political interference
Less corruption
Accountability
Profit motivation
Cons
Profit may not be the motive
Capital
Strategic and sensitive areas (defense)
Essential services
Job loss