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| | Be sure to spend time on the review sections in the prior lectures for more information about this and other topics on the exams. | | Be sure to spend time on the review sections in the prior lectures for more information about this and other topics on the exams. |
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| − | ==Review: Government Regulation/Policy==
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| − | In reality, however, the government plays an enormous role in the economy. It produces goods and services itself. The Post Office is a mammoth example of such a service. Government also regulates “the private sector,” which means free enterprise. Some of its regulations, such as the antitrust laws, are designed to increase competition and efficiency. The government also redistributes wealth through taxation and welfare programs. Government is big and always there. And it keeps growing bigger.
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| − | Occasionally an exam question is designed to highlight the limitations of government. Is it efficient? No. Why not? It often has no competition (e.g., 44 cents now to mail a letter).
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| − | Can we eliminate government? Some say no, because private firms could never survive producing goods or services that have high positive externalities. A private firm could never produce a free public park, for example. The private firm would go bankrupt. Government is necessary, some say, to produce those goods and services that must be available to everyone. Public transportation in New York is made possible by the government. The subway could not survive on only the passenger fare. In a nutshell, private companies cannot produce [[public good]]s. Put another way, the use of [[public good]]s cannot be withheld from those who do not pay for them. Public goods are discussed further below.
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| − | Most people want government to reduce the negative externalities that occur in a purely free market. If government did not provide garbage service in cities, and everyone had to pay to remove garbage, then before long we might have rotten garbage filling the streets. The negative externality would be high, and we might beg government to remove the trash.
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| − | Likewise with pollution: if companies were allowed to pollute our rivers and streams, then many would. Many did, in fact. This is another negative externality. The companies are not paying for the full cost of their production, so their marginal cost (MC) is artificially lower than it should be. The companies are avoiding the cost of their own pollution. A lower MC means they will produce more goods than if their MC were higher. The term “marginal social cost” is used by economists to represent the true cost of their activities, including the cost of their pollution. In theory, perhaps there are free market responses to the polluter, such as people asserting property rights in the rivers being damaged. Historically, it has taken government regulation to reduce the negative externality.
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| − | Then there are the price floors, supports and ceilings that government imposes from time to time. Do we all know the differences? Price “ceilings” (or controls) are the easiest: the government says that the good cannot be sold for a higher price. Just as you cannot reach above your ceiling, the price is prohibited from rising above the ceiling that the government sets for it. It would be requiring gas to be sold for no more than $1.50, for example. The quantity supplied will decrease (move down the supply curve), while the quantity demanded will increase (move up the demand curve). Shortages result.
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| − | What is a price floor? Just the opposite of a ceiling. We cannot reach below the floor, and a price floor prevents the price from falling below a certain level. It would be a government law that prohibited milk from selling for less than $2 a gallon, for example. It would be intended to help the suppliers, such as dairy farmers. What happens when government imposes a price floor? There is a surplus of the good, as supply exceeds demand.
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| − | Now, how about a price support? That occurs when the government buys large quantities of good, such food, at prices higher than the competitive equilibrium. The government does this to “support” a higher price, instead of passing a law to require a higher price. A price support is designed to help the firms producing the goods, such as farmers. The rationale is that farmers are politically important and that pure competition is too brutal on their business and their lives, and also that foreign countries engage in the same practices. The effect of a “price support” is similar to a price floor: it creates a surplus of the good when the support is above the equilibrium price
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| − | When government regulates labor, the analysis is similar to its regulation of price. A “price floor” is created by the minimum wage: the buyer (an employer) must pay at least a certain amount for a service (labor). The minimum wage creates an oversupply of the service: too many workers. Not all of them will be able to obtain jobs at a wage higher than equilibrium. Unemployment results from a minimum wage that is higher than the equilibrium wage.
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| | == Review: Public Goods == | | == Review: Public Goods == |