Governments Role in a Market Economy - Essay Example

Government’s Role in a Market Economy Your name University name Government’s Role in a Market Economy Market economies refer to the commercial activities that are carried out within a country. These commercial entities may involve dealing with foreign countries in terms of imports and exports. The government intervention often depends on the type of economic systems. This was expressed by Adam smith who studied and pioneered market economy. He however argued that the government’s intervention should be marginal. This is because it was crucial for the natural forces of demand and supply to dictate the market economies (Smith, 1776, p.201). Another economist called John Maynard Keynes based his arguments about government involvement on a series of different economic models. One such scenario was his argument for an increased intervention by the government on the market economy. He supported his arguments basing them on the financial crisis of the 1930. He suggests that an economy facing a financial crisis cannot recover by itself when the vast population is jobless. It therefore critically needs the governments help in order to pull through. The government through its response should review its fiscal policy to address the concerns of the moment. This will encompass spending government money on projects that would create employment (Keynes, 1936, p.104). The government through its policies should also grant subsidies to purchase of basic utilities in order to cushion the people from harsh economic times. His arguments were advanced during the study of social market economies. The social market economies were in operation in the 20th century in Germany. The German government argued that monopolies were an impediment to a progressive economy. This thus made them to institute state controls of regulating large firms and monopolies. However this was done in a manner not to infringe into their rights to operate freely. Another economic model is the one where economies are centrally set and organized. The planning of these economies involves strategy milestones of a period of time for instance five years. All the economic activities within that period are catered for in that strategic blue print. The Karl Marx economic theories form the basis for this economic model. This model however has been proven to suffer serious anomalies. This model is not productive and does not facilitate innovation and creativity. This is partially because of its rigidity to the strategic economic plan which cannot adequately anticipate future changes in market determinants (Salvdori, 1977, p.59). These hence forced the countries that had adopted this type of model to revert to other models that fostered economic development and innovation. The United States of America and other nations in Europe experienced a successful growth as a result of free market economy. However this was halted by a looming financial crisis in the year 2006. This drastically changed the old order of engagement. Preceding the crisis, high risk transactions were easily carried out. These transactions included grant of both loans and mortgage to even people who earn little incomes and those who don’t fully pass the credit worth test. Loans were advanced at very low interest rates resulting to massive people taking loans. This also encouraged imprudent spending where most people spent more than they could make. Repayment of the loans became nearly impossible forcing majority of people to sell their houses to get money and service those loans. The influx of houses in the United States of America led to a decline of their prices. Subsequently towards 2007 there was an oversupply in houses leading to a progressive collapse of property business. Many banks were forced to auction people’s homes in order to recover their money. The government of United States of America should have intervened but the then president decided to let the market to stabilize on its own without government intervention. In order to sustain the high need for credit, they borrowed from other European countries. This situation worsened with the decline in the real estate business in the US. The European banks involved suffered greatly as a result. This state of things promoted the government economists to suggest a government intervention. This action was necessary to prevent mortgage lenders and other financial institutions from insolvency. This state of a financial crisis catapulted its effects across Europe and Asia hence the crisis became global. The reluctance of the US government was only forced to happen when major firms eyed there closure. These firms included AIG insurance company, investment bank Lehmann Brothers and major mortgage lenders Fannie Mae and Freddie Mac (Woods, 2009, p.120). The government quickly devised a plan to bail out all those firms that had financial obligations with bad mortgage. This affirmative action was taken in the year 2008. This response was the largest to the capital markets authority in US history. According to (Guillén, 2009, p.207), it was critical for governments to act and avoid the break down of the financial system. One can see that within days governments in many countries had to take urgent action to prevent a collapse of the financial system. When economic markets all world over were facing a financial crisis the respective governments came up with a stimulus package programs to stem the crisis. According to (Dawson, 1996, p. 57), individual firms have got limited capability to respond to such a crisis. At this point, the government should institute measures such as tax cuts and bailouts to rescue those firms out of bankruptcy. The government should also be in the fore front of carrying out activities that would create jobs. After such a crisis, quite a number of investors lose confidence with the market and may opt out. It is therefore vital for the government to intervene and restore investor confidence. According to (Rao, 1998. p.157), the banks during these tough times are likely to lend loans at high interest rates. This would scare away investors hence the government should get involved to ensure the interest rates charged are economical viable. Government intervention has got its fair share of merits and demerits. The actions taken by the government for example stabilizes the economy in the short run as a result of massive investment to recover the economy. In the process employment is created and a number of social issues are dealt with. The most important merit is that the government helps to stabilize the financial markets. However amidst all these merits a substantial financial gap is created in the budget. This hurts the economy in the long run. Such deficits more often prompt governments to charge higher taxes impacting negatively to businesses. If the market has more money in circulation it may result to inflation which causes serious consequences to the economy. A rise in inflation results to a social instability due to higher prices of basic commodities. A free market economy is however not an attractive economic model since its flaws far out way the merits. In a free market economy, the government has no obligation to provide its citizens with basic essentials at subsidized rates (Forbes & Ames, 2011, p.201). This leaves them at the mercy of private entities that may provide those essentials at expensive prices. This is due to the fact that private entities are out to make high profits. This will only increase the social problems in a country. Several amenities like health care, education and infrastructure will only be at the mercy of the rich. A free market economy will only classify people into categories like poor and the rich. This creates a very big social imbalance within a country. In a free market economy, there are no market regulations by the government. This allows even degenerative business to thrive compromising the wellbeing of society. The end result to this is a very unstable economy prevalent with social injustices. A free market economy also creates an enabling environment for monopolies to thrive. This is majorly because of lack no regulation in the market. Monopoly firms over shadow small businesses. They create a difficult business environment. This is because their prices for commodities are unregulated. (Throsby, 2001, p.97).These high prices are paid by the consumers regardless of the quality of the products. Corrupt practices may thrive in a free market because the government cannot regulate over them. A free market economy neglects the poor as whatever they produce is designed for the rich who have the financial resources. This further adds to the impoverishment of the poor and widening the social class. Free market economy ignores social policy at the expense of capitalism. Due to these demerits of a free market economy, it is there fore correct to conclude that there can never be a truly free market economy. References Forbes, S., & Ames, E.(2011). How Capitalism Will Save Us: Why Free People and Free Markets Are the Best Answer in today’s Economy .New York, Crown Publishing Group. Mauro, G. (2009). The Global Economic & Financial Crisis: A Timeline. The Lauder Institute, Wharton, University of Pennsylvania. Maynard, K. (1936). The General Theory of Employment, Interest, and money. Cambridge, England. Rao, P. (1998). Globalization, privatization and free market economy. Quorum, California. Salvadori, L. (1977). Free market economies: misconceptions and morality: lectures by Massimo Salvadori on the occasion of America's bicentennial celebration. Sandra, D. (1996). Analysing Organizations. Third Edition, Palgrave. Smith, A. (1776). An Inquiry into the Nature and Causes of the Wealth of Nations. Edinburgh , Scotland Throsby, D. (2001). Economics and culture. Declining risk, the advent of liberalization and state-multination. Quorum, California. Woods,T.(2009). Meltdown: a free-market look at why the stock market collapsed, the economy tanked, and government bailouts will make things worse. Regnery Pub, Newyork. Read More