Economic Governance and Market Systems: Balancing Efficiency and Equity - Prof. Edward Wei, Papers of Political Economy

Download Economic Governance and Market Systems: Balancing Efficiency and Equity - Prof. Edward Wei and more Papers Political Economy in PDF only on Docsity! Frank Sullivan 905152758 2-25-08 Competitiveness, Efficiency, and Equity in Heteronymous Markets The creation of wealth is the central goal of global economies and shapes political policies all over the world. Wealth is created by increasing degrees of specialization which require economic governance to sustain. Without economic governance, the accumulation of wealth is not possible. Markets are vital for governing the risk presented by specialization. Hierarchy and heteronomy are two forms of governance adopted to manage risk in ways that coordinate and regulate economic activity. This regulation is created by a balance between the top down style of hierarchy and the bottom up approach implemented by heteronomy. The objective of each method is to attain the perfect balance between equity and efficiency in markets, otherwise known as social democracy. Protectionism promotes equity in markets though government actions and redistribution of wealth. Markets are able to maximize efficiency through open markets that encourage comparative advantage through international trade. Increased competitiveness through comparative advantage supports the growth of sectoral diversification and synergies, and thus fosters a foundation for wealth. Through the proper use of specialization, government policies, and markets, economies are able to create wealth with the use of efficiency while still managing to preserve equity. Specialization is essential for the creation of wealth, but also cultivates new problems which must be addressed through economic governance. Specialization is the narrowing of the area of concentration in order to produce more efficiently and increase productivity. Specialization sacrifices more general activities and knowledge in order to master the field of focus. “Specialization is also known as the division of labor because in the labor force, each person becomes an expert in their specific field” (Weisband, Lecture 3). Because each individual only masters one area of study, a need for interdependence throughout the economy is created. Interdependence is the reliance of the economy as a whole on the basis that each individual part will execute its share of the work in an acceptable manner. The different parts of the economy are forced to rely upon each other to create a functioning whole. This type of reliance upon others inherently comes with a certain level of risk. “Each portion of the economy is putting itself at the mercy of the rest of the economy because it trusts that the others will fulfill their responsibilities” (Weisband, Lecture 3). If one section of the economy neglects its responsibilities, it lets down the entire economy and system as a whole fails. Trust is absolutely crucial to the success of specialization in an economy because without it nothing can be done efficiently. In order to counter some of the risk associated with the need for trust in others to perform their assigned roles sufficiently, economic governance is introduced. “Economic governance attempts to reduce risk and permit economic activity through the use of legislation, taxes, and subsidies” (Weisband, Lecture 4). Markets, however, are the most common choice for economic governance and are very good at allowing gain to occur by countering risk. The preceding logic stream is a great tool for understanding how wealth is created and protected, but does not go into much detail about how wealth is expanded. Sectoral diversification and sectoral synergies are two key ingredients for the augmentation of prosperity. Sectoral diversification means an increased range of areas in which specialization occurs. “A larger number of specialized parts in an economy entails greater levels of prosperity and income equality due to the diversification of its outputs” (Weisband, Lecture 4). Demand is raised when products become more specialized, which then lead to larger returns on investment. Increased diversification of outputs leads to diminished opportunity costs because the economy has a comparative advantage in a larger number of industries. Comparative advantage states “countries demand. Nothing goes to waste in a system that uses heteronomy because consumers control the market. “Heteronomy however, carries the costs of market transactions, market failures, and moral hazards” (Weisband, Lecture 8). Transaction costs in markets center on the time it takes for valid information to reach its desired location. Market failures entail a number of malevolent effects with negative externalities being the most prevalent. Negative externalities hurt the economy because the costs are not borne by the user, but instead the economy as a whole. Moral hazards consist of instances of opportunism and guile where individuals become greedy and exploit a lack of regulation for self benefit. The best form of governance is a combination of the two systems commonly referred to as social democracy. Whereas hierarchy stresses equity and heteronomy focuses on efficiency, social democracy looks for a balance between the two. Social democracy attempts to weed out some of the negative aspects of each form of governance while promoting the positive features. Hierarchy and heteronomy are almost exact opposite systems, and thus the markets found under heteronomy should theoretically perform best when left alone instead of when they are regulated by government actions. However, problems can occur when markets are not watched carefully and sometimes they benefit from government regulation. “A market failure is the inability of the market to adequately price GDP outputs. Different types of market failures include opportunism with guile, structural forms of inequity and inaccessibility, leveraged market power, special interests, and negative externalities”(Weisband, Lecture 8). When governments fail to act upon a market that is struggling and it is left alone for an extended period of time, the imbalance between hierarchy and heteronomy leads to market failures. A proper balance is essential to sustaining markets and maintaining a healthy economy. Opportunism and guile, leveraged market power, and negative externalities can occur when there is a lack of hierarchical control. Without proper laws and regulation in place, corruption can ruin markets through greed. Leveraged market power also springs from a legislation deficit as businesses in certain industries grow so big they can control the market and eliminate competition. Taxes and subsidies need to be put in place in order to prevent the development of both monopolies and monopsonies. Both taxation and the passage of legislation help prevent and correct negative externalities through financial penalties as a consequence of wrong doing. Economies run the risk of inequality and inaccessibility along with special interests when heteronomy dominates the governance of economic activities. The focus on efficiency when governing through heteronomy often neglects equality and accessibility in markets. To counter what heteronomy does not account for, government balances the situation by implementing public programs such as welfare, social security, and financial aid. Special interests can occur easily in heteronymous markets as those with the power are able to manipulate legislation in their favor. To offset the power of special interests, privatization should be increased and more markets opened. Views on market failures differ between liberals and conservatives. Liberals support the concept of equality and the hierarchical structure. “Liberals appreciate government activism and the funding of public goods. Conservatives on the other hand favor efficiency and user pay solutions in markets” (Weisband, Lecture 9). Conservative policy lets heteronomy work its magic and increase market proficiency through the demands of the users. The philosophical debate between liberals and conservatives always centers on the correct balance between efficiency and equity. Efficiency and equity are both crucial elements concerning the governance of markets. Efficiency results when productivity is maximized and waste is minimized. Efficient markets are able to create the greatest amount of wealth in the smallest amount of time. Equity attempts to create wealth though the equal distribution of assets in markets in an attempt to level the playing field. “Equity rests on the basis that when everyone is operating from an equivalent level of means, efficiency can be best achieved through balanced demand because no one is able to influence the markets in their own favor” (Weisband, Lecture 9). Tensions between equity and efficiency arise as to which one is of greater importance. However, each one needs the other present to achieve its full potential. Different standards of effectiveness arise between efficiency and equity because they achieve their respective goals through separate methods. The user pay solutions contained in efficiency are measured in total output. Efficient forms of economic governance are not meant to appear pretty or seem fair, but instead to get the best results in the least amount of time. Equity is more concerned with the method rather than the end result. Equity would rather see that everyone gets an equal chance at wealth. Efficiency rewards the work of the individual, where as equity looks at for the best interests of the whole economy. Four distinctive economic formats summarize the interaction between equity and efficiency. “The first is the Nordic model which is both efficient and equitable. Both high entitlement spending and the regulation of labor with incentives are present in this model and are the reason for its success” (Weisband, Lecture 10). Entitlement spending creates equity on the main stage and better represents the demand of the economy as a whole. The regulation of labor with incentives allow for market failures to be avoided, while incentives create reasons for workers to become as efficient and productive as possible. “The Rhineland model pushes equity, but not efficiency by granting entitlements to the unemployed and retired” (Weisband, Lecture 10). However, the Rhineland model discourages economic efficiency by diminishing the motivation of workers with tightly regulated labor markets. “The Anglo model opposes the Rhineland model, neglecting entitlements and barely regulating markets all in the name off efficiency” (Weisband, Lecture 10). Finally, the Mediterranean is far and away the worst of the four. “The protectionism to occur. “Protectionism overwhelmingly seeks to defend specific sets of uncompetitive national industries or sectors against international competition” (Weisband, Lecture 12). When national industries begin to fail because foreign enterprises are more cheaply or efficient, economic governance must step in to fix the situation, lest the entity in jeopardy become obsolete. Often times the government will either tax the foreign sector’s imports into the nation or provide subsidies to the struggling industry in order to boost competition. Both systems each have their advantages and disadvantages in the global economy, and thus the need for a balance between free trade and protectionism in a necessary one. This argument digresses to the early dispute between efficiency and equity. Wealth can only be maximized with a combination of these two entities because without one, the other is nothing. Unregulated free trade is subject to all sorts of inequitable market failures and complete protectionism is not efficient at all. Protectionism clearly retreats from the concept of being efficient and instead embraces the idea of equity. By attempting to keep everything fair between industries in global markets, protectionism preserves competition and while maintaining balance. The perfect balance between efficiency and equity through specialization, government policy, and markets is the goal of global economies. Economic governance and economic efficiency are the main catalysts for global economic activity and productivity. By themselves, efficiency and equity are weak, but when the right combination is discovered, wealth maximization occurs. Works Cited Frieden, Jeffrey A. Global Capitalism: Its Fall and Rise in the 20 th century . New York: W.W. Norton & Company Inc, 2007. Irwin, Douglas A. Free Trade Under Fire. New Jersey: Princeton University Press, 2005. Lindblom, Charles E. The Market System: What it is, How it works, and What to make of it. New Haven: Yale University Press, 2001. Rivoli, Pietra. The Travels of a T-Shirt in the Global Economy. New Jersey: John Wiley & Sons, Inc., 2005. “Voting With your Trolley”. The Economist. 7th December 2006. 2 February 2008. Weisband In-Class Lectures (1-12)