Government Failure

Question 1

What is Government Failure?

Answer 1

Government failure occurs when government intervention leads to a net welfare loss—meaning the costs of intervention outweigh the benefits, often worsening the allocation of scarce resources.

Question 2

Causes of Government Failure:
Information Failure

Answer 2

Governments may lack accurate or complete information, especially when valuing externalities.

This can lead to policies that are too strict or too weak, misallocating resources.

Question 3

Administrative and Enforcement Costs

Answer 3

Policies like regulations, subsidies, and price controls can have high costs.

If they’re too expensive to enforce or administer, they may not be worth implementing.

Question 4

Unintended Consequences

Answer 4

Interventions may have side effects that worsen the situation.

Even if intentions are good, poor foresight can lead to inefficient or harmful outcomes.

Question 5

Political Self-Interest

Answer 5

Politicians may prioritize short-term popularity or re-election over long-term welfare.

This can result in policies driven by political motives rather than economic efficiency.

Question 6

What are common unintended consequences of government intervention?

Answer 6

Black markets: May arise due to bans, minimum prices, or heavy regulation.

Regressive impacts: For example, indirect taxes like VAT hit the poor harder, worsening inequality.

Reduced incentives: Excessive taxation or regulation may reduce innovation, supply, or investment.

Higher unemployment: Policies like minimum wages or heavy regulation can lead to job losses.

Question 7

What is Regulatory Capture?

Answer 7

Regulatory capture occurs when regulators act in the interest of the firms they regulate, rather than the public.

Often happens when regulators have close relationships with industry leaders.

Leads to weakened enforcement or biased rules, favoring the monopoly or dominant firms.