1.4.2 Government failure

• Government failure:


  Occurs when government intervention leads to a net welfare loss compared to the free market solution.
• Types of government failure:

  1) Distortion of price signals

  2) Unintended consequences

  3) Excessive administrative costs

  4) Information gaps
• Distortion of price signals (govt failure):


  In a free market economy, the price mechanism works to allocate resources. Govt intervention can distort price signals which may result in resources not being allocated in an efficient way.
• Unintended consequences (govt failure):


  E.g. the EU's Common Agricultural Policy is a scheme that subsidises EU farmers. These subsidies pushed world prices so low that it meant that producers in developing countries could no longer compete.
• Excessive administrative costs (govt failure):


  Some govt policies are very expensive to administer. If these costs exceed the benefits of the policy then this is govt failure.
• Information gaps (govt failure):


  Govts do not possess complete/full info and therefore may make policy mistakes.