Role of government: An overview
Regulatory & promotional role of the
Government response to market failure
Regulatory response to incentive failure
Regulation of environment pollution
Regulatory response to structure failure
The government of a nation adopt the suitable
economic system based on her socio-economic
structure and on the basis of state of economic
The common economic system are: socialist
economy - public sector dominant, capitalist
economy - private sector dominant and the mixed
economic system – the interplay of public and
With the adoption of appropriate economic system,
the government – by the people and for the people,
tries to make equitable distribution of income,
stability of the economy, and to ensure the
adequate rate of growth.
At earlier phase there was less role of
government in economic activities, the ruler
control the economy.
In the middle age government started to
control in the economy so that till the 17th
century, there was a major role of
government in the economy.
In late 18th century, the ‘invisible hand
doctrine’ was introduced in order to reduce
the role of government.
In late eighteenth century, Adam smith came
out with an analysis of market trends of
production and consumption, wherein he
concluded that the markets, if left alone, have
an inherent potential of becoming efficient. It
is as if there was an invisible hand that
guides the market to a level that is good for
society. His theory has remained the
cornerstone of all economics, even after two
Adam Smith, in late eighteenth century, proposed a theory that
stated that in a free and unregulated market, where anybody can
become a producer or a consumer, people's demand of different
goods and their production of the same good will be equal, and
the allocation of their resources for production and consumption
of different goods will be optimal for the welfare of the society.
Put another way, Mr. Smith suggested that the invisible hand of
market forces of demand and supply will achieve the most
efficient level of production, consumption and distribution of
goods in the society.
The idea of an invisible hand guiding the market to the best
social outcome created a very strong reason in favor of free
markets, and has been the standard argument against
governments controlling production or consumption in any form
that interferes with the free market.
In19th century, the voice against the government
heightened so that role of government in the
economy declined dramatically. The laissez-faire
policy/doctrine/policy was evolved against the
government intervention. “Government was
considered the best which does the least” as per
laissez-faire, policy of minimum governmental
interference in the economic affairs of individuals
and society. The origin of the term is uncertain,
but folklore/legends suggests that it is derived
from the answer Jean-Baptiste Colbert, controller
general of Finance under King Louis XIV of France
(around 1665), received, when he asked
industrialists what the government could do to
help business: “Leave us alone.”
20th century experienced both the bad and
good effects of laissez-faire policy
Good news – rapid economic growth
Bad news – exploitation of unskilled labor,
measurable social environments,
monopolistic exploitation, gap between rich
and poor, etc.
Thus, the role of the government again began
to increase all over the world.
(1914-1920) WW I (1914-1918)
1930’s Great Depression WW II (1939-1945)
1) For equitable distribution of resources
2) To look after the public goods like defense
services and supplies
3) To curve the externalities
4) To stabilize the economy
5) To achieve acceptable rate of growth
6) To enforce the government laws –
acceptable for all.
With the lesson from the past experience, the
government in 21st century mostly adopt the
modern economic system which is the mixed
approach of boosting the economic activities
for the expansion and growth of the economy
as a whole.
The modern economy, thus the mixed
approach – the interplay of private sector and
the public sector, the deserving sectors are
segregated to the public as well as the private
sector so that it is assumed to stabilize the
16th 17th 18th 19th 20th 21st
Role of Government in Economy: at a glance
Ratio: Role of
Regulatory & Promotional Role of the Government
A. Regulatory role: Direct and Indirect measures of the
Government to control and regulate the private sector.
For example, restrictive policies, incentive policies,
operation control, indirect tax impose, etc.
The conception of regulatory role of the government is
mainly guided by two factors
a) Economic: Concern with market failure.
b) Political: Concern with social issues - consumer
rights, equitable distribution, etc.
Further, the tools of the Government to controls the
private sectors are: monetary and budgetary policy.
Corrective and inductive control
(Chances for correction through fine, penalties,
etc, and rewards for specific works – shedding
lights through specific to general)
Direct and indirect control
(Imposing the price limit and tax, duties, etc)
Effect of competition
(Antitrust policy to discourage monopoly, etc)
Promotional and regulation control
(tax subsidies, zero interest loans, R&D vs.
restrictive rules and regulations impose through
B. Promotional role: The incentives for the private sector to
flourish their operation.
For instance, providing infrastructural facilities -
transportation, communication, security, etc.
The promotional role of the government specially focuses
a) Economic growth: Creating demand of goods and services
so that the cyclical effect help to boost the economy.
b) External economies: Minimizing the const of production
due to external factors (promotional activities) or increasing
the productivity. The external factors are outside the control
of a particular company, and encompass positive externalities
that reduce the firm's costs. External diseconomies: If external factors
beyond the control of a company increases its
total costs, can be associated with market
prices increasing the factors of production.
Stimulate private sector by investing through the
Loan on low interest rate, etc