How does the government intervene to ensure stability in the price level?

How does the government intervene to ensure stability in the price level?

To alleviate inefficiencies, governments intervene in markets. Resources are correctly allocated to those who need them in the amounts they require in an optimally efficient market. That is not the case in inefficient marketplaces; some people may have too much of a resource while others do not. When an economy expands as a result of greater spending but not as a result of increased production of goods and services, inflation occurs. Prices rise as a result, and the money within the economy is worth less than it was previously.

Governments can fight inflation by imposing wage and price limits, but this can lead to a recession and job losses. Governments can also use a contractionary monetary policy to combat inflation by limiting the money supply in an economy by raising interest rates and lowering bond prices.

Governments can intervene to supply unemployment benefits and minimum income for those that are disabled and sick. This permits individuals to flee the condition of poverty. This intervention of the state also can prevent social unrest from extremes of inequality.

Fiscal policies are effective in combating both inflation and deflation because the government may utilize taxes and spending to increase or decrease the amount of money available to citizens, thereby changing the value of the currency.

Government intervention through regulation can directly address the issues.

Explain various types of price controls.

• Minimum prices – Prices can’t be set lower (but are often set above). A minimum price is when the government does not allow prices to fall below a particular level. If minimum prices are set higher than the equilibrium, prices will rise. For instance, the EU has used minimum prices for agriculture. It is argued that the farmers’ incomes are too low. Therefore, minimum prices will not be able to increase prices above the equilibrium. This permits farmers to urge better revenue.
• Maximum price – Limit to what proportion prices are often raised (e.g. market rent). This is often when the government wishes to stop prices from going above a particular level. Prices will fall if placed below the equilibrium. But if the worth is below the equilibrium, demand is going to be greater than supply resulting in a shortage. The government can also use maximum prices for important food-stuffs or pharmaceutical drugs which it wants to sell cheaper.
• Buffer stocks – Here the government keeps prices within a particular band. A buffer stock may be a control where the government seeks to make stay the worth within a particular band. It is effectively combining elements of maximum and minimum prices. The aim is to both stabilize prices (and incomes) for farmers and stop shortages and high prices. If successful, the government buys surplus during a good harvest then sells the surplus if there is a shortage.
• Limiting price increases – During a privatized monopoly (e.g. electricity, gas, water – where there’s no competition) the government regulator may execute a task in limiting the proportion of prices which are often increased. During a free-market economy, some industries are natural monopolies (the most effective number of firms is one). In this case, it is impossible to possess effective competition. Within the absence of state regulation, the monopoly could charge excessively high prices. As a substitute for competition, the government regulator can set prices (or limit price increases) to ensure the extent of profitability which isn’t excessive. Regulation of monopolies is usually controversial. Consumer groups claim regulators become guilty of ‘regulatory capture’ whilst companies can complain they’re starved of funds for investment.
• Direct price-setting – During a command economy, prices of products could also be set by the government. The government plays a crucial role in choosing what to supply, the way to produce, and what prices to charge. During this situation, the economic process is ignored and therefore the government sets the foremost ‘socially efficient prices.

Why government intervention is important to redistribute income within a society?

Benefits of government intervention in the economy

• Diminishing marginal returns to income: The law of diminishing returns states that as income increases, there’s a diminishing utility. If you’ve got an income of £2 million a year. A rise in income to £2.5 million gives only a marginal increase in happiness/utility. For instance, your third sports car gives only a little increase in total utility. However, if you’re unemployed, and surviving on £50 every week. The tenth increase in income gives a considerable boost in living standards and quality of life. Therefore, redistributing income can cause a net welfare gain for society and income redistribution is often justified from a utilitarian perspective.
• Fairness: During a free market, inequalities are often created, not through ability and handwork, but a privilege and monopoly power. Without government intervention, firms can exploit monopoly power to pay low wages to workers and charge high prices to consumers.
• Inherited wealth: Often the argument is formed that folks should be ready to keep the rewards of their diligence. But, if wealth and income and opportunity depend upon being born into the proper family, is that justified? A wealth tax can reduce the wealth of the richest, and this revenue is often wont to spend on education for those that are born in poor circumstances.
• Rawls’s agreement: Rawls’ agreement stated that the perfect society is one where you’d be happy to change state in any situation, not knowing where you’d find yourself. Using this agreement, most people wouldn’t prefer to change state during a free market because the rewards are concentrated within the hands of a little minority of the population. If people had no idea where they might change state, they might be more likely to settle on a society with a degree of state intervention and redistribution.

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