Government intervention and market efficiency

A market economy is based on price mechanism which in turn depends on the competition in the
markets.
The market forces are supposed to ensure equilibrium ,optimum use of resources and maximization
of welfare. In reality market failure occurs and distortion creep in . Hence the scope of government
intervention surfaces . The government by interfering should ensure efficient use of resources along
with equity. The intervention of the government to maximize welfare can be as follows:
1. Fiscal policy can be used to ensure efficient resource allocations. Taxes can be levied on goods
which cause external diseconomies and subsidies can be extended those goods whose production
can cases external economies.
2. Strict regulatory measures can be taken to reduce diseconomies.
3. In the case of consumption also, taxes and subsidies can be used to correct diseconomies and
economies. If the consumption of a commodity causes diseconomies taxes can be composed to
rectify that.
4. Dissemination of information enable people to make right decisions .
5. Suitable legislation can be passed and implemented to prevent unfair trade parities by monopoly
and oligopoly firms.
 Principles of Sound and Functional Finance
 The emergence of fiscal policy as powerful as a fiscal weapon can be explained with the help of the
above two concepts the classical economist believe in the concept of sound finance.
 Functional finance is an economic theory proposed by Abba P. Lerner, based on effective
demand principles and chartalism. It states that government should finance itself to meet explicit
goals, such as taming the business cycle, achieving full employment, ensuring growth, and
low inflation.
 The principal ideas behind functional finance can be summarized as:
1. Governments have to intervene in the national and global economy; these economies are not self-
regulating.
2. The principal economic objective of the state should be to ensure a prosperous economy.
3. Money is a creature of the state; it has to be managed.
4. Fiscal policy should be directed in light of its impact on the economy, and the budget should be
managed accordingly, that is, 'balancing revenue and spending' is not important; prosperity is
important.
5. The amount and pace of government spending should be set in light of the desired level of activity,
and taxes should be levied for their economic impact, rather than to raise revenue.
6. Principles of 'sound finance' apply to individuals. They make sense for individuals, households,
businesses, and non-sovereign governments (such as cities and individual US states) but do not apply
to the governments of sovereign states, capable of issuing money.