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Unlock This CourseIn a mixed economic system, the government can change who owns a firm. It can also set a limit on how much of something may be produced or taken. These are the last three ways of dealing with market failure in the spec.
Key terms:
Imagine the railways in a country called Tarvane are owned by private companies. Trains are expensive, and the companies close lines that do not make a profit. The government decides to buy the companies. The railways are now in the public sector. That is nationalisation.
Governments often nationalise firms that provide essential services or that have a lot of market power.
The government can run the firm to benefit society, not only to make profit. Unprofitable but important services, such as a rural rail line, can be kept.
It can stop a private monopoly charging high prices.
Jobs can be protected in an industry that matters to the country.
Any profit can be used to pay for other public services.
The government has to pay the owners to buy the firm. This money comes from taxes, so it has an opportunity cost.
With no profit motive and less competition, the firm may become less efficient.
If the firm makes a loss, the government may have to cover it with tax money.
Decisions may be made for political reasons instead of for business reasons.
Privatisation is the opposite of nationalisation. Suppose the government of Velmar owns the national airline. It sells the airline to private investors. The airline now belongs to the private sector and aims to make a profit.
The profit motive gives managers a reason to cut waste and keep costs down, so the firm may become more efficient.
The sale raises money for the government.
The government no longer has to pay for losses, so it can spend more on other things.
Competition from other firms may lead to lower prices and better quality.
A public firm that was a monopoly may become a private monopoly and raise prices.
The new owners may cut services that lose money, even if people need them.
Firms may ignore external costs, such as pollution, because they do not pay for them.
Workers may lose their jobs if the firm cuts costs.
Selling a firm that makes a profit means the government loses that income in future.
Privatisation is also used as a supply-side policy. You will see that later, in the lesson on supply-side policy measures.
A quota is a limit on quantity. Governments use quotas when the market produces too much of something harmful, or uses up a resource too fast. Remember that over-consumption of a resource is a type of market failure.
Suppose the seas near the island of Danvora are being overfished. The government sets a quota of 5,000 tonnes of fish a year. Boats may not catch more than this in total. The aim is to let fish stocks recover.
A government may limit how much of a natural resource, such as timber, coal or oil, can be taken in a year. The aim is to make the resource last longer.
A quota puts a firm limit on the quantity, so the amount is known.
It protects resources and the environment for future generations.
It helps to stop over-consumption and the external costs that come with it.
Less is supplied, so the price of the good usually rises for consumers.
Fishers and other producers lose income, and some may lose their jobs.
It is hard to check that everyone keeps to the quota. Some may break the rules and sell illegally.
It is hard to know the right level for the quota. Too high and the resource is still used up. Too low and people lose out for no reason.
Students mix up nationalisation and privatisation. Nationalisation means the government buys, so the firm moves to the public sector. Privatisation means the government sells, so the firm moves to the private sector. Another mistake is saying a quota is a tax. A quota is a limit on the quantity, not a charge on the price.
The government of Danvora owns the main fish processing company. The seas around Danvora are overfished, and the government has set a fishing quota. It is now thinking about selling the fish processing company to private investors.
(a) Define privatisation. [2 marks]
(b) Explain two disadvantages of a fishing quota. [4 marks]
(c) Discuss whether the government of Danvora should sell the fish processing company to private investors. [6 marks]
(a) Privatisation is when the government sells a firm or industry it owns (1) to the private sector (1).
(b) First, the quota reduces the supply of fish, so the price of fish rises for consumers (1) and some people may find it hard to afford it (1). Second, fishers can catch less, so they lose income and some may lose their jobs (1), which may lead to some fishing illegally (1).
(c) For selling: private investors want profit, so they may cut waste and become more efficient (1). The sale raises money for the government and ends the cost of covering any losses (1). Against selling: the company might become a private monopoly and raise prices for consumers (1). It may also cut jobs or stop services that lose money, to make more profit (1). Judgement: the government should sell only if rules are in place to stop the new owners from abusing their power (1) and if competition is possible (1).
In a discuss question, give points for both sides and then finish with a short judgement that answers the exact question asked.