Question

Q. The Government has various tools available to deal with the Market Failure. List at least major 8 tools and substantiate your answers?

Answer 1

Let us first understand the meaning of Market Failure :- Market failure is an economic situation where their is an inefficient distribution of goods and services in the free market. In market failure the individual incentives for rational behavior do not lead to rational outcomes for the group. 8 major tools used by government to deal with market failure are as follows : 1 - Increase Tax :- To reduce consumption of demerit goods government can increase taxes. By which the price of goods will increase which will leads to decrease in the demand. 2 - Subsidies :- Subsidies involve the government paying part of the cost to the firm. This reduces the price of the good and should encourage more consumption. A subsidy shifts the supply curve to the right and can be justified for goods which offer benefits to the rest of society. 3 - Laws and regulations :- To overcome market failure the government may place laws and regulations which prohibit certain behaviour and actions. Regulations can limit or prevent : 1 - Demerit goods. 2 - Goods with negative externalities. 3 - Abuse of monopoly power. 4 - Exploitation of labour. 4 - Pollution Permits :- The aim of pollution permits is to provide market incentives for firms to reduce pollution and reduce the external costs associated with it. For example : it is argued carbon dioxide emissions contribute towards global warming. Pollution permits can also be a way for the government to raise revenue by selling firms permits to allow certain amount of pollution. 5 - Advertising :- Advertising leads to deadweight welfare loss. The money spent on advertising goods does not increase their quality nor does it increase the number of goods and services in the economy. However it does cost a lot leading to higher prices for consumers by which government can control market failure. For example : Government warning of dangers of tobacco through advertisement. 6 - Nudges :- Nudge theory suggests consumer behaviour can be influenced by small suggestions and positive reinforcements. By which government can make it harder to purchase demerits goods. 7 - Government Price Controls :- Government price controls are situations where the government sets prices for particular goods and services. By which government tries to stabilise price in the market. 8 - Policies to reduce unemployment :- Government can introduce policies to reduce unemployment such as : 1 - Education 2 - Training. which will help the government to overcome Market Failure.