Download Role of Government in Market Economies

Role of Government in Market
Economies
What is a Market Economy?
Consumers and businesses jointly answer
the 3 main questions – What, Whom, and
How to Produce
This is an economic system where supply,
demand, and the price system help people
make economic decisions and allocate
their resources
In a market economy, people have the
freedom to start any business they wish
This system is usually referred to as
capitalism
What is the Role of Government?
Relatively small
Only when it concerns national defense,
environmental protection, and some care
for the elderly
The government usually tries to stay out of
the way of buyers and sellers
However, when the government
establishes new regulations, the cost of
production can change
This can cause a change in supply
When the government demands things like
“all cars must come equipped with
airbags” that raises the production costs
which are then passed on to the consumer
Some consumers may not care about
airbags and would prefer to make that
decision themselves
Increased government regulations
decrease supply
How Does the US Measure Economic
Activity?
GDP – Gross Domestic Product
This measures the output
Measuring GDP is easy – multiply all the
final goods and services produced in a 12
month period by their prices and then add
them all together
GDP is done quarterly
It is impossible to measure all things sold,
so they do leave a margin of error
What is left out of GDP?
Intermediate products – goods used to
make other goods
For example – tires on a car – they are in
the GDP when you buy new ones, but not
when you buy a new car
Secondhand sales are also excluded –
only the original sale – examples – houses
and used cars
Nonmarket transactions – activates that
generate no expenditures – for example –
cutting your own lawn
Underground economy – activities that are
not reported
Some of these might be illegal such as
gambling, prostitution and drug trade
Others are legal but are difficult to trace
such as garage sales, flea markets, etc.
Computing GDP
Because prices can go up as a result of a
decrease in supply – GDP can appear to
be increasing when it is really just the
price
So, economist must add in inflation
They use a set of constant prices
Real GDP is measured with the constant
base
Current GDP is not
Problems with looking at GDP
It tells us nothing about the composition of
output
If GDP increases by $10 billion we know
that production is going up and more jobs
are being created – on the flip side, what if
that increase was due to military nerve gas
stockpiles and not libraries or parks
We would not be so thrilled
It tells us little about the impact of
production
10,000 new homes may have been built
which is great, but what if we discovered
that they were built on a wildlife refuge –
the value of them might be viewed
differently
Some GDP is used to control activities that
give us little satisfaction
Such as the war on drugs or money spent
to fight crime
If we had less crime then less money
would be spent to fight it – but less crime
would leave us happier