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GOVT functions that promote greater competition
GOVT functions designed to avoid the flaws of pure competition
Centrallyplanned
economies
Government
planning of
the entire
economy
Laissezfaire
economies
No
government
involvement
in the
economy
FOUR TYPES OF ECONOMIES
Market capitalism - capital and natural resources are generally
owned by private individuals who have the power to make
decisions concerning their uses [i.e., USA, ROC, Japan, W.
Europe]
Command capitalism - capital and natural resources are
generally privately-owned, but government has broad power to
determine their uses [i.e., Middle East, Africa, Latin America]
Command socialism - government owns most of the capital
and natural resources and exercises broad power to determine
how the economy’s resources will be allocated [i.e., Cuba, North
Korea]
Market socialism - government owns most of the capital and
natural resources, but allows individuals who operate firms to
make choices about the use of these factors [i.e., Russia, former
Warsaw Pact countries]
BASIC TENETS OF CAPITALISM
Private property - people can obtain, control, use, and dispose of the
property resources they own [subject to only minimal governmentimposed limitations]
Freedom of enterprise and freedom of choice exist - individuals can
become entrepreneurs; consumers can buy what they want [a.k.a.,
consumer sovereignty]; workers can choose their vocations
Rational self-interest is the driving force of the economy -all
economic actors attempt to maximize some objective (i.e., profits,
income, satisfaction) subject to budgetary constraints and other
objectives
Competition is the governing mechanism of the market - large
number of buyers and sellers so that economic agents must act as pricetakers and, thus, competitors
Markets and prices coordinate economic activity - interaction of
demand and supply determine allocations of society’s resources; role of
government is limited
ECONOMIC FUNCTIONS OF GOVERNMENT
[Based on McConnell & Brue, ECONOMICS, 13th ed., pp. 81-85]
Government functions that strengthen/facilitate the
operation of the market system
• provide the legal foundation and social environment
conducive to the effective operation of the market system
- i.e., develop system of uniform weights and measures,
“rules of the game,” [Pure Food and Drug Act of 1906,
Fair Credit Reporting Act of 1968, etc.]
• maintain competition by enforcing or simulating
competition - i.e., anti-trust legislation, regulate “natural
monopolies,” etc.
Government functions that modify or supplement the
operation of the market system
• redistribution of wealth
(1) transfer payments
(2) market intervention
(3) personal income tax
• adjusting the allocation of resources to alter the
composition of domestic output
(1) positive and negative externalities
(2) public goods/services
(3) stabilizing the economy
(a) fiscal policy
(b) monetary policy
KEYNESIAN ECONOMIC THEORY
Business cycle fluctuations result from
imbalances between aggregate demand and
productive capacity
• Aggregate demand is the total amount of money
available in the economy to be spent on goods and
services
• Productive capacity is the total value of goods and
services that can be produced by the economy when it
works at full employment
• Government can adjust imbalances by manipulating
fiscal policies, monetary polices, or both
FISCAL POLICY
Inflation [too much demand]
Taxes
Spending
Fiscal policy is the
domain of the president
and Congress.
Fiscal policy has been
criticized as being:
(1) too political
(2) too slow
•recognition lag
Recession [demand too weak]
•decision-making lag
•administrative lag
Taxes
Spending
•operational lag
Ricardian Equivalence
Theorem
“Crowding-Out” Effect
MONETARY POLICY
Inflation
Monetary policy is
the domain of the
Federal Reserve
Board.
• Reserve requirements
• Discount rate
Recession
• Reserve requirements
• Discount rate
Many economists
prefer monetary
policy over fiscal
policy because
the Federal
Reserve Board is
thought to be
insulated from
politics and time
lags are not as
great.