“It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own interest”. The ‘Father of Capitalism’, Adam Smith, claimed that fulfilment of individual wants and needs without government intervention is what derives utility required for economic growth. Comparatively, Karl Marx theorised Communism, whereby governments manage major means of production and natural resources in society.
However, the ideological disputes of the Cold War taught us that compromises are required for economic stability and growth. One such compromise is governments intervening in, but not controlling, economies.
One of the main forms of public sector intervention is fiscal policy, which involves using government expenditure and tax rates to alter and influence the economy.
UK government spending equalled 44.7% of nominal GDP in 2021-2022, indicating its significance in the national economy. But government spending is still primarily executed for intervention purposes; free-market economies produce shortages of services that benefit society more than individuals, such as healthcare and education, because ‘self-gratifying’ consumers don’t place enough value on these goods. Consequently, the public sector must provide these merit services, which explains why healthcare and education comprise 47% of total UK government departmental spending (2020-2021).
Governments also attempt to mitigate the wealth gap via expenditure. This is much needed, considering the poorest 50% in the USA account for just 3.2% of the country’s wealth (April 2018 – March 2020). Often, governments help the unemployed in the form of benefits. Again, this is an example of intervention to prevent the wealth gap widening and subsequent market failure.
Taxation is the imposition of compulsory levies by governments on their population. In most economies, those with greater incomes are taxed more. Thus, taxes lead to the mitigation of the wealth gap. Alongside this, taxes bring governments revenue, which is required for expenditure.
The other major form of government intervention is monetary policy, where the state controls the quantity of money in the economy and the cost of borrowing, usually through a central bank.
Controlling the amount of money in circulation is imperative for economic stability - a lesson learnt by Weimar Germany. In November 1923, a loaf of bread cost 200 million marks, as opposed to just 250 marks earlier that year, due to the government printing off too much money.
The base rate is the cost of borrowing or reward for saving. If the base rate is lowered, then more people borrow and fewer save. This leads to consumers’ disposable income increasing, resulting in higher consumption, which, all other factors being equal, generates economic growth.
Public sector intervention is explained neatly by Tim Harford, who compared modern economies to a sprint race. Let the race pan out normally, and the fastest finish well ahead of the slowest. For a fairer result, one could instruct everyone to run at the pace of the slowest, so all finished simultaneously. Instead, the government regularly alters the participants’ starting blocks, so everyone runs at maximum pace, but finish close to one another.In other words, no government action causes a large wealth gap, whilst total state control induces inefficiency. However, by intervening through fiscal and monetary policy, both these dilemmas are eradicated, and governments can manage the economy and economic growth.
References:
Comments