The economic functions of government include enforcing laws and contracts, maintaining competition, redistributing income, providing public goods, correcting allocations for externalities, and stabilizing the economy
Government must provide public goods because a private market will not provide them.Pure public goods must meet the criteria of shared consumption and non-exclusion.
Even a perfectly competitive market sometimes produces too little of some goods and too much of others; economists call this situation a market failure.
The market overproduces goods that create negative externalities.A negative externality is created when part of the cost of a transaction is borne by third parties who are not directly involved in the transaction.Negative externalities include pollution and harmful effects of pesticides and smoking.Negative externalities are sometimes called spillover costs.
The market under produces goods that create positive externalities.A positive externality is created when benefits of a transaction or activity are received by third parties who are not directly involved in the transaction.Positive externalities include education, vaccinations against diseases, and flood control.Positive externalities are sometimes called spillover benefits.
Government tries to discourage the production of goods that involve negative externalities and encourage the production of goods that involve positive externalities.
Cleaning up the environment would be efficient if it were cleaned up to the point where the marginal social benefits of the cleanup were equal to the marginal social costs and were done at the least possible cost.
Most economists believe the environment can be cleaned up at a lower cost by substituting market incentives for command and control policies.
Sometimes buyers and sellers do not have perfect information, so the market outcome is not efficient. In these cases, it may be necessary for government to intervene in the market
The theory of public choice uses economic analysis to evaluate government’s operation and policies.
Public-choice theorists believe politicians and government officials are self-interested as business people.However, instead of trying to maximize profits, “political entrepreneurs” seek to maximize power, salaries, prestige, and votes.This behavior results in government waste and inefficiency.
Government tax to raise revenue.Some taxes are based on the ability to pay theory, while others are based on the benefits-received theory.
Tax rates can be progressive, proportional, or regressive.
Government taxing and spending policies can change a society’s distribution of income.
The incidence of a tax can be shifted from the person paying the government to someone else.This is accomplished through changes in prices, income, and outputs.
The Lorenz curve illustrates the degree of income inequality within a nation. The government can use progressive income taxes and transfer payments to lessen inequality by shifting the Lorenz curve inward.
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