ROLE OF GOVERNMENT IN MIXED

ECONOMY

Name - Aamir Malik

Teacher – Arushi Saxsena
Subject – Economy
Stream - Commerce
Grade – XI H
 ROLE OF GOVERNMENT IN MIXED
ECONOMY

Role # 1. Improving Efficiency of the

Economic System:
An important function of the government is to assist
in the socially desirable allocation of scarce
resources. This, in its turn, would require the gov-
ernment to perform certain subsidiary functions. As
Samuelson has put it, “Courts and police forces
would be needed to ensure fulfilment of
contracts, non-fraudulent and non-violent
behaviour, freedom from theft and external
aggression, and legislated rights of
property.”
In today’s complex world government intervention is
needed primarily to ensure an optimal correction of
market failure.
Market failure is attributable to:
(i) Breakdown of perfect competition,
(ii) Externalities like air pollution and public goods
and
(iii) Imperfect information.aam
The emergence of monopolies and market
imperfections calls for government
intervention. Similarly unregulated private
factories tend to pollute the environment and
create various health problems which can be
effectively tackled only by the government.
Similarly, there are certain goods which are to
be provided for all members of society, if at all,
such as roads, medical care, police protection,
street lighting, etc.
These are called public (collective consumption)
goods and, of necessity, are to be provided by
the government. Otherwise, there will be the
free-rider problem, i.e., most people would
consume such goods without making any
payment.
Similarly in a free market consumers are not
adequately informed about the characteristics
of the goods they buy and sometimes
consumers get wrong information through false
advertising.
So the market system is not ideal for
maximising social welfare. And the government
has to intervene to improve the efficiency of the
economic system.
Differently put, the government often deploys its
weapons to make an optimal correction of market
failure.
The following three cases are worth consid-
ering in this context:
Control of Monopoly:
When large firms, viz., monopolies and oligopolies
collude to avoid price war or drive some rivals out of
business, government may enforce anti-monopoly
policies or regulations. This is the main reason why
the Monopolistic and Restrictive Trade Practices Act
was passed in India in 1969.
Natural monopoly occurs when the technology of
providing a product or service makes it cheaper for
only one firm to produce the market output. In this
case there are increasing returns to scale at all out-
put levels. See Fig. 46.1 which illustrates the case of
natural monopoly.
A natural monopoly has a declining average total-
cost curve at all output levels. If the firm were to
charge a price equal to its marginal cost, it would
produce Q3 units of output and incur economic
losses.

If left unregulated, it could charge the monopoly

price of P2 and produce only Q2 units of output.
Government or anti-monopoly commissions often
attempt to make regulated firms produce where
average total cost equals price. At the output level
Q2 the natural monopolist would cover its costs of
production while maximising consumers’ surplus.
ADVERTISEMENTS:
Role# 2. Controlling Externalities and Public
Goods:
The unregulated market may and often do produce
too much air, water and land pollution as also
greenhouse-gas emission, leaving too little resources
for investment in public health or knowledge. An
externality is a cost or a benefit imposed by a trans-
action on someone who was not a party to the trans-
action. Control of externalities is one of the impor-
tant functions of the government.
In Fig. 46.2 .S represents the private cost of the
firms. SMC includes the cost of the externality. If the
firms do not internalize the externality, market
output is Q1 and price is P1. If the firms must account
for the SMC, they produce only Q2. The shaded area,
abc, shows the additional cost to society of
producing Q1: the difference between the area under
the SMC curve and the market demand curve.
This is why in industrially advanced countries
governments seek to control harmful externalities or
spend money on science and public health which are
not adequately taken care of (and supported by)
private industry.
The government alone can tax such activities as
cigarette smoking which are harmful to society and
which impose external public costs. It can also sub-
sidies other activities such as scientific and
industrial research and development which are
socially beneficial.
A solution to the externality problem lies in en-
forcing property rights. A property right is the ex-
clusive ownership of specific goods or the exclusive
privilege to behave in a certain manner. When in-
dividual property rights are not clearly established,
governments have to intervene.
Role # 3. Supplying Correct Information:
This is an age of information and knowledge and
information is now treated as a separate factor of
production, a new form of capital particularly after
the recent information revolution all over the world.
And in a world of uncertainty it is necessary for
consumers to collect adequate information to be able
to take the correct decision. However, unregulated
markets provide very little, if any, information for
consumers to make rational decisions.
That is why food-processing firms are required, by
law, to provide information on the nutrition of food
products and on the energy efficiency of household
appliances like water coolers and washing machines.
Similarly, firms manufacturing life- saving drugs and
pharmaceuticals are required to provide sufficient
information to the government on the safety and
usefulness of new drugs before they can be
commercially introduced.
Moreover, the government can spend money to
collect additional information itself, which, it thinks,
is essential not only for the smooth functioning of
the economy but also for controlling and managing
the economy through the planning system.
This is why the Government of India has set up the
Central Statistical Organisation (C.S.O.) of the
Planning Commission which collects and supplies
information on certain key macro- variables such as
national income, national product, the contribution
of different industries to social product and so on.
In short, since markets do not always provide a
socially optimal level of information, the government
may have a role in providing this information.
Information is an important issue.
Some observers claim that providing information is
the only function that government should perform in
offsetting externalities and other socio-economic
problems. However, the truth is that there are
several possible allocational problems for
government to handle.
Function # 4. Improving the Distribution of
Income:
Even when the invisible hand works smoothly and
efficiently, the free play of market forces creates
another problem, viz., the problem of income
inequality.
In fact, the market system is a system of rewards and
penalties. It rewards the efficient, i.e., those who can
read the market signals properly and produce the
commodities which most people want to buy at a
price. At the same time it penalises the inefficient,
i.e., those who read wrong signals and produce
commodities which most people do not want to buy.
This inequality in income distribution is a fact of life.
To this we have to add inequality in the distribution
of property, wealth which arises for various reasons:
laws of inheritance (of property), luck, talents and
efforts and so on. And it is one of the important
economic functions of the modern government to
redistribute income (and wealth) from the rich to the
poor.
This is done in advanced countries by spending a
major portion of government revenues to maintain
minimum standard of health, nutrition and income
through such schemes as transfer programmes,
medical care and social security.
In India and other developing countries where there
is no safety net for the poor in the form of a com-
prehensive social security system, this goal—income
redistribution—is sought to be achieved through
other measures such as public distribution system of
food grains, land reform, progressive income taxes
on the rich and subsidy for the poor, and above all,
the control of big business and multinationals.
In recent years most modern governments have
passed laws and imposed regulations designed to
ensure equal employment, housing and educational
opportunities for the weaker sections of society.
Function # 5. Grants and Subsidies:
Governments also award grants that give firms
exclusive rights to a national resource or to the pro-
duction of a good or service. Governments award
cable television and radio rights as well as landing
rights at airports to firms for no more than the appli-
cation cost. By doing so the government is releasing
control over scarce resources technically owned by
the whole community.
Governments also often decide to favour some firms
and entire industries relative to others. This support
is often provided in the form of a subsidy. A subsidy
is a payment to a firm in the form of tax reduction or
a fixed amount of money, or a payment based on the
output of the firm. The subsidy lowers the firm’s
production costs.
A government subsidizes a firm when the firm would
not otherwise produce output at the level the
government desires. A government can use subsidies
to encourage production by firms that create positive
externalities.
Governments subsidies cover a wide array of firms
and industries: museums, public television and radio
stations, bus and passenger train services, public
parks, highways and bridges, and universities. In
offering subsidies, governments lower the direct
costs to those consuming the goods and services and
increase the quantity consumed.
Function # 6. Macroeconomic Stabilisation:
The capitalist economies prior to the Great De-
pression of 1929 were prone to business cycles—
periodic bouts of inflation and unemployment.
However, today, government has the responsibility
of avoiding such economic fluctuations by judicious
and appropriate use of monetary and fiscal mea-
sures, as well as close regulation of the financial sys-
tem.
Furthermore, government attempts to stabilise the
economy, i.e., it tries to smooth out the ups and
downs of the business cycle, in order to avoid either
large-scale unemployment at the bottom of the cycle
or accelerating price inflation at the top of the cycle.
More recently, government has become more
concerned about promoting long-term growth of the
economy by expanding production capacity.
Function # 7. Representing the Country at
the International Level:
In recent years, international trade and investment
have become much more important to a modern
mixed economy than they were in the past. This very
fact implies that government now plays a critical role
representing the interests of the nation at the
international level and negotiating beneficial agree-
ments with other countries on a wide range of issues.
The international issues of economic policy
can be divided into the following four areas:
(i) Reducing Trade Barriers:
Perhaps the first important aspect of the govern-
ment’s international economic policy involves har-
monising laws and reducing trade barriers so as to
encourage fruitful international specialisation and
division of labour.
This is why in recent times nations with progressive
outlook have negotiated a series of trade agreements
to lower tariff and -other trade barriers on farm
(primary) products, manufactured articles, and
services. For example, in 1993, the USA, Mexico and
Canada concluded the North American Free Trade
Agreement (NAFTA) to promote growth through
trade in that prosperous region by lowering tariff
barriers.
(ii) Exchange Rate Stability:
The foreign exchange reserves of a country are kept
with the government or its authorised agent, the
Central Bank. And the Central Bank, on behalf of the
government, often intervenes in the foreign
exchange market to maintain stability of the coun-
try’s currency in terms of other currencies.
(iii) Macroeconomic Co-Ordination:
The governments of different countries now meet at
periodic intervals to co-ordinate their exchange rate
and other macroeconomic policies to combat the
problems of global inflation and unemployment.
This is important because exchange rates do not
manage themselves; establishing a smoothly
functioning exchange rate system is a prerequisite
for promoting efficient multilateral trade. Moreover,
macroeconomic co-ordination is important because
fiscal and monetary policies of other nations can af-
fect domestic economic conditions.
(iv) Environmental Protection:
Finally protection of the global environment is very
much on the agenda of government economic policy.
So one of the important aspect of international
economic policy is to work with other nations to
protect the environment in cases where several
countries contribute or are affected by spill-overs.
As Paul Samuelson and W.D. Nordhaus have put it,
“The most active areas historically have been pro-
tecting fisheries and water quality in rivers. More re-
cently, as scientists have raised concerns about
ozone depletion, deforestation, global warming,
species extinction, nations have began to consider
ways of protecting these global resources. Clearly,
international environmental problems can be
resolved only through the cooperation of many
nations.”

Private Sector of Indian Economy

The private sector of Indian economy is the past few years
have delineated significant development in terms of
investment and in terms of its share in the gross domestic
product. The key areas in private sector of Indian
economy that have surpassed the public sector are
transport

Indian government has considered plans to take concrete

steps to bring affect poverty alleviation through the
creation of more job opportunities in the private sector of
Indian economy, increase in the number of financial
institutions in the private sector, to provide loans for
purchase of houses, equipments, education, and for
infrastructural development also. The private sector of
Indian economy is recently showing its inclination to
serve the society through women empowerment
programs, aiding the people affected by natural
calamities, extending help to the street children and so on.
The government of India is being assisted by a number of
agencies to identify the areas that are blocking the entry
of the private sector of Indian economy in the arena of
infrastructural development, like regulatory policies, legal
procedures etc.

The most interesting fact about the private sector of India

economy is that though the overall pace of its
development is comparatively slower than the public
sector, still the investment of private sector in the recent
past, i.e. in the first quarter of 1990 registered
approximately 56 % which rose to nearly 71 % in the next
quarter, accounting for an increase of 15 %. Certain steps
taken by the Indian government are acting as the stepping
stone of the private sector continued journey to success,
include industrial delicensing, devaluation that was
 implemented previously.

The private sector of Indian economy is also adversely

affected by the huge number of permits and enormous
time required for the processing of documents to initiate a
firm, however the central government has decided to
abolish MRTP Act and incorporate a Competition
Commission of India to bring the public sector and the
private sector at the same platform.

The participation of the private sector of Indian economy

is desired by the government of India for infrastructural
development including specific sectors like power,
development of highways and so on. As the contribution
of public sector in these sectors have been arrested due to
the shift of the attention of the Indian government to
issues like population increase, industrial growth.

The main reasons behind the low contribution of the

private sector in infrastructural development activities are
that:
 The small and medium scale companies in the private
sector of Indian economy suffer from lack of finances to
welcome the idea of extending their business to other
states or diversify their product range.
 The private sector of Indian economy also suffer
from the absence of appropriate regulatory structure, to
guide the private sector and this speaks for its
unorganized framework.
 The unorganized framework of the private sector is
interrupting the proper management of this sector
resulting in the slowdown of its development.

Role of Private Sector in India:

While in various Western capitalist countries and in
Japan, private sector played a responsible role for
their economic development but in socialist
countries, public sector played a dominant role for
their industrial development. But India, being a
mixed economy, adopted a middle course where it
has judicially mixed both the public sector and
private sector for their respective role in
development activities of the country.
From the very beginning, the Government has
earmarked some specific areas in the field of
industry, agriculture, infrastructure and trade for the
private sector. Accordingly, the Industrial Policy
Resolutions of 1948, 1956 and 1991 have allotted a
specific role to the private sector for conducting the
development activities of the country.
The private sector has been playing a dynamic role in
introducing new products, new varieties, new
processes, new designs etc. and thereby updated the
entire production system.

Private Sector in the Indian

Economy:

Private sector is playing an important role in Indian

economy. The importance of this sector in the
economy of the country can be visualised from the
fact that it contributes to the major portion of
national income and employment.
As per the latest available statistics for the year
1984-85, the private sector contributed about 75.5
per cent of the net domestic product and the
remaining 24.5 per cent as contributed by the public
sector. The role of private sector is quite dominant in
agriculture and allied activities, small scale industry,
retail trade etc.
Again, as per 1981 census, the percentage of
population working in the government sector,
including public enterprises and government
administration was only 7 per cent and the
remaining 93 per cent of the working population are
engaged in the private sector.
Thus, even after making a huge volume of
investments in the public sector and completing
more than 45 years of planning, Indian economy is
still broadly based on the private sector.

Limitations of Private Sector in India:

Private sector has been playing a dominant role in
India’s economic development and has proved its
capacity and superiority during the last 45 years. In
spite of achieving a huge milestone in the path of
economic development, the private sector has
manifested some weaknesses of its own. The factors
which are mostly going against this sector are its
economic strength, profit motive and personal
initiative.
As the private sector is mostly guided by the profit
maximisation motive for the owners and have little
consideration for the national objectives and
priorities, thus it may adopt certain undesirable
steps which may go against the interest of the
consumers as well as the nation itself. Undesirable
steps adopted by large scale units may sometimes
thwarted the process of growth of the medium and
small scale industrial units.
The following are some of the important
weaknesses and limitations of the private
sector:

(i) Too Much Emphasis on Low-Priority

Industries:
The first important limitation of the private sector in
India is that during the last four decades it has
invested most of its capital on the development and
expansion of consumer goods industries, having low
priority elitist bias, like Television and other
electronics, man-made fibres, refrigerators,
automobiles, perfumes and cosmetics, air
conditioners etc.
Such an industrial trend diverted the scarce
economic resources of the country into some
undesirable channels leading to undesirable waste,
rise in elitist consumption pattern and international
demonstration effect. In this way, long term
requirements of the economy are being ignored
deliberately and the required development of the
essential sectors has been hampered.
But the entire blame of this undesirable trend cannot
be solely shifted to the private sector alone.
Government by reserving most of the priority areas
for the public sector has restricted the operation of
the private sector and also helped the private sector
indirectly to increase the production of non-essential
goods.
(ii) Emergence of Monopoly Power and
Economic Concentration:
Since introduction of development process along
with economic planning in the country in 1951, some
existing industrial and business houses got the
advantage to avail all those facilities provided by the
Government and gain its control over certain
industries and gradually became monopolistic in
character.
By adopting unfair and restrictive trade practices,
they restricted the entry of their rivals and
simultaneously eliminated their rivals smoothly.
These houses have gained the control over huge
volume of wealth and economic power.
In this way, 20 big industrial houses with Tatas and
Birlas at the top have emerged as the top economic
leaders of the country, which are controlling the
economic lever of the country as per their own
interest.
As per the study made by the Mahalanobis
Committee and the Monopolies Inquiry
Commission, it is found that planning process of the
country has increased the monopoly and economic
concentration instead of reducing such trend.
(iii) Concentration of Black Money:
Growing economic concentration along with growing
tendency on the part of the individual to avoid taxes
has led to a huge concentration of black money in
the hands of private sector. Such accumulation of
black money and Government’s failure to arrest such
tendency has resulted in a huge drainage of real
resources into undesirable channels, leading to
considerable wastage, economic scam, political
tampering etc.
(iv) Industrial Disputes:
The private sector in India has been suffering from
poor industrial relations. Since independence, the
country has been experiencing a good number of
large scale strikes and lockouts leading to a valuable
loss of man-days as well as production.
Industrial disputes in the private sector of the
country is mostly resulted from the issues like wages
and allowances, bonus, working hours, leave
privileges, victimisation of workers, retrenchment,
recognition of unions etc. Moreover, the incidence of
industrial disputes is much higher in the private
sector as compared to that of public sector of the
country.
(v) Industrial Sickness:
Another important limitation of the private sector in
India is the problem of growing industrial sickness
in different lines of industrial and business activity.
In India, industrial sickness was very much common
to engineering industry, cotton and jute textiles
industry.
But in recent times, the problem of sickness is
gradually increasing in all different types of industry
irrespective of their scale of production. The factors
which me mostly responsible for such growing
industrial sickness in the country include inefficient
and corrupt management, lack of proper marketing
strategy, poor labour relations and faulty
government policy.
The fundamental limitation of the private sector is
that it has always been assigned with a secondary
role to play in the field of economic development of
the country by the Government. Naturally it could
not find any chance to show its worth in basic, heavy
and capital goods industries and also in
infrastructural sector.
With the gradual opening of the economy through
economic liberalisation, the private sector has now
been assigned with a greater role to play in that
priority sector during the post-1991 period, which
was earlier reserved solely for the public sector.

Problems of Private Sector in India:

In a mixed economy like India, the private sector has
been assigned with a significant role to play in the
field of economic development of the country.
Although the Government has taken various
supporting measures to develop this sector but the
various control and regulatory measures introduced
by the Government has restricted the private sector
to diversify its productive activities and also
hampered its growth process.
The following are some of the problems with
which the private sector of the country
usually suffers:

(i) Regulatory Procedure and Related Delays:

Too many regulatory measures imposed by the
Government on the private sector has resulted in
lengthy procedure and delays in getting final
clearance of a new industrial project. On the
Government level, decision making system is so poor
that it normally takes 7 to 8 years for large
investment project to complete its gestation period.
Delegation of decision making in the Government
bureaucracy is so poor that even the simple decisions
are rolled back to the top level leading avoidable
procedural delays, huge cost escalation, increasing
interest burden and higher burden Oil Consumers.
(ii) Unnecessary Control:
From the beginning, the private sector of the country
is subjected to unnecessary Government control.
Price controls imposed by the Government on
certain goods have resulted in disincentive to
increase production.
Rather competition among the rival producers can
enlarge the production base and thereby can reduce
the prices automatically. But in India, under the
conditions of shortage, price controls, dual pricing
etc. has resulted in black marketing and hoarding of
such commodities.
Moreover, the system of licensing of capacity as a
capacity restraint has also resulted in undesirable
effects on the investors instead of preventing
monopolistic tendencies. It is only since 1980, that
unnecessary controls on the utilisation of excess
capacity and on the creation of new capacities have
been either abolished or liberalised.
(iii) Inadequate Diversification:
The private sector has been suffering from
inadequate diversification as the Government did
not allow them to participate in those basic, heavy
and infrastructural sectors which were earlier
reserved for the public sector. It is only in post-1991
period, some of these areas are now opened for the
private sector participation.
(iv) Reservation for the Small Sector:
From the initial stage of development, the
Government is providing necessary support to the
small industrial sector in the form of reservation of
certain products exclusively for the small sector so as
to save it from unfair competition of large units and
also by providing excise exemption or lower excise
duties on the goods produced by the small sector.
But for the proper development of the small sector,
modernization of their production techniques,
proper product-mix, updating of designs must be
given adequate priority.
(v) Lack of Finance and Credit:
Although the large scale industrial corporate units of
the private sector are mobilising their fund from
banks, development financial institutions and from
the market through sale of their equities or
debentures but the small scale units are facing acute
problem in raising fund for their expansion.
(vi) Low Ratio of Profit:
Another important problem of the private sector
enterprises is the declining trend in its net profit
ratio. Accordingly, the net profit to turnover ratio of
these total Indian private sector enterprises declined
from 6.1 per cent in 1994-95 to 3.2 per cent in 1996-
97 and then to 2.3 per cent in 1997- 98.
Moreover, the net profit to net worth (NP/NW).
reflecting on return on investment, of the total
private sector enterprises also declined considerably
from 15.2 per cent in 1994-95 to 6.5 per cent in 1996-
97 and then to 4.7 per cent in 1997-98 as compared
to that of 5.4 per cent of the Central Public Sector
Enterprises (CPSEs).
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