Role of Government in Economy: An Economist’s Perspective

The question of government interference in economic activities has been debated for a very long time by the economists. While the early economists considered economics as a handmaid of politics, the modem view is that politics is the handmaid of economics. With the growing importance of the role of government in economic welfare, the modem economists firmly believe that the sphere of government in economic development has no boundary. However, there is no unanimity among the economists about the extent and mode of government intervention in the economic sphere. Hence, we can identify the following political ideologies regarding the government intervention in an economy.

  • The earliest opinion was that the government has nothing to do in an economy as the society will regulate itself. This opinion also stated that the government will wither away over a period of time. These ideologists are called Anarchists.
  • Opposing the anarchists view is the Communists view. According to them, the individuals cannot do anything on their own and there is a need for government to supervise and regulate individuals. The state will own everything and it is the fundamental duty of the government to organize and direct all economic activities.  Hence, government becomes the custodian of the society and it has a very wide role to perform.

In between the above two views, there are two more views about the extent of government intervention in an economy. While one view highlights the individuals, the other lays emphasis on the need for the government. According to the individualists view, the government a necessary evil. Even Adam Smith advocated very limited functions for the government and to him the government should confine to the maintenance of law and order. This view was holding good in the case of Western countries while in most of the under developed countries the economists themselves argued for larger intervention of the government. Individualism was found to be exploitative and against the welfare of the society. Hence, another ideology that emerged was Collectivism. According to collectivism, interest of the society is more important than the individuals. They considered that government has a very useful and desirable role to play in an economy. So they assigned unlimited powers on the government and argued that the government intervention is necessary to promote social welfare. The government should therefore, play a very vital role in economic development. These two limits about the role of government are often referred to as Capitalism and Socialism. The modern view is that government must play a significant role in an economy that all the essential services should be government owned and controlled. According to the modern view the role of government includes maintenance of law and order, achieving equality and social justice, protecting the weak from the economically strong, fighting against poverty, etc.

The areas of government intervention in modern state  may be broadly discussed under the following heads :

  1. Protective Functions: By performing these functions, the modem government creates the necessary atmosphere for performing productive activities. Protection from external attacks and maintenance of internal peace are necessary so that economic activities will be performed to maximize the welfare of the society. Some people argue that this function of the government is unproductive, but without this function, no economy can ensure performance of productive activities.
  2. Administrative Functions: Government activities include a host of administrative works. All these works are performed through various departments and so the government maintains a large number of officials and agencies who implement the government policies. Works of routine nature are performed by these officials and the efficiency in the administration is a must for rapid economic growth.
  3. Provision of Social Security: This is a major function of the modern government as it is concerned with the improvement in public welfare. Maintenance of public health, provision of unemployment insurance, free medical and educational facilities, granting old-age pensions, provision of decent housing facilities, maintenance of public perks, libraries, museums, etc., have become part of the government functions. Though these functions are not in any way productive, yet they are necessary to encourage and promote productive activities.
  4. Economic Functions: One of the basic economic functions of the modern government is to ensure optimal utilization of the available resources. This involves both identification and proper use of the resources. Especially these days every country needs to put the available resources to the best use so that the society gets the maximum benefits. Further if the resources utilization is left in the hands of the private enterprise, they will under utilize the resources as they have only profit maximization as their objective. There are also possibilities of the emergence of monopolist tendencies, concentration of wealth in the hands of a few, etc. hence, every modern state should interfere in resources utilization. Another important function of the government is to maintain economic stability. This means protecting the economy from the influence of business cycles. In the process of growth, boom and depression are inevitable. But they must be under check, as otherwise, there will be uncertainty affecting the business prosperity and through that industrial development. Hence, the modern governments control and regulate the working of the economic forces so as to achieve economic growth with stability. Another very important economic function of the government is price control and rationing. This measure aims at preventing escalation in prices of essential commodities and controls the price of other commodities. By resorting to retail and wholesale price maintenance policies, the government can strive to bring down the price level. This calls for buffer stock operations as well as efficient demand and supply management of commodities which the country is badly in need of. This is achieved by introducing rationing of essential commodities through well designed public distribution mechanism. All these mean, enormous efforts are required on the part of the government apart from the willing cooperation from the traders and businessmen. In practice it is found that price control and rationing are very difficult to be implemented during inflationary period due to the exploitative and monopolistic attitude of the businessmen and traders.

Yet another area where government intervention is needed is the removal of inequality in a country. This inequality arises because of the mal-distribution of the economic wealth and prosperity. Though national income increases, the rich becomes richer and the poor the poorer. This tendency should be changed through legal and political steps. For this purpose government in several countries have enacted legislation’s and announced concessions in favor of poor people. Implementation of these legislation’s and concessions involve a lot of difficulties and they have to be periodically revised. The object of the government in this connection must be to prevent concentration of economic power and wealth in the hands of a few. Another important economic function of the modem government is to achieve economic growth. For this purpose the government has to plan for economic development and in this task the government part from deciding the targets, planning process, resources identification and allocation, etc., It should also arrange for financing the plans. It should be noted that planning has become important in both developed countries as well as under developed countries. In the developed countries planning is used to achieve stability in development, while in under developed and developing countries it is used for accelerating economic development.

The government intervention in an economy is a must for the following reasons:

  1. In developing economies the vicious circle of poverty impedes the economy from developing faster. This vicious circle can be broken only with the government intervention. In the absence of it, any amount of planning will fail to bring about the necessary impetus to growth in such economies.
  2. In the process of economic development, instability should be avoided at any cost. Even in developed countries, such instabilities are avoided with government intervention. In developing countries, therefore, the government should plan for proper allocation and utilization of resources as well as economic stability. Allowing the market forces to operate has certainly some advantages. But in under developed countries market forces do not operate smoothly because of external rigidities and structure bottle-necks. To overcome these forces pinning down economic development, government intervention is needed.
  3. The basic requirement for rapid economic development is the economic and social infrastructure. The investment requirement for the provision of such infrastructural facilities runs to billions. This can be provided only the government and not the private sector. Further such investments are not income or profit yielding and so private enterprises may not come forth to undertake such investments. So government has a concrete role to play in inventing on such social and economic infrastructures.
  4. Investment in social overheads is undertaken by the government by mobilizing financial resources from various sources. These sources of government include taxation, public borrowing and deficit financing and these sources cannot be resorted to by the private enterprises. It is also well known that private enterprises lack comprehensive approach to economic development.
  5. Government intervention is indispensable in under developed economies because in such economies, there are several obstacles to economic development which can be overcome only by the government. As Mir and Baldwin observed every under developed economy needs a critical minimum of government intervention to reduce indivisibilities and discontinuities in the economy, to overcome diseconomies of scale and offset certain other forces that arise to depress development, once development begins.

Credit: Managerial Economics-MGU