State Intervention in the Mixed Economy: A Comprehensive Overview

State Intervention in the Economy

The Role of the State in Mixed Economy Systems

The Great Depression of the 1930s, generated by the 1929 crisis, brought about a crisis of confidence in markets. This led to a shift in the thinking of economists, who began to advocate for greater state intervention in economic affairs. As a result, the state’s role transitioned from that of a guardian to a protagonist, taking on the direction and organization of the economy.

The extent of state intervention varies across countries. For example, the state’s role is relatively small in the U.S., while in countries like France, the state has assumed a greater role. In our country, the public sector’s influence is lower than the EU average and significantly below countries like Italy.

The State as a Corrector of Market Failures

Constraints are focused on:

The Business Cycle

The economic cycle refers to the fluctuation of economic activity over time. Business cycles are irregular in both duration and intensity.

Markets are criticized for their failure to achieve stable economic growth. Periodic crises affecting market economies generate instability and insecurity about the future, with serious implications for workers and businesses.

All economic cycles pass through four phases:

1. Depression: The lowest point of the cycle. During a depression, there is a low level of demand relative to the available productive capacity. Demand is significantly below supply, leading to high unemployment of productive resources.
2. Recovery: An upswing in economic activity. This stage sees rising employment levels, income, and consumption. It is usually accompanied by a price increase.
3. Peak: The highest point of the cycle. Characterized by full employment of factors, with high investment and labor shortages.
4. Recession: A downturn in economic activity. At the beginning of this phase, business expectations are not optimistic. Employers recognize that continued sales growth is not possible and that there is a saturation of demand. Sales fall, inventories rise, and unemployment increases.

The Keynesian Contribution

During the Great Depression, John Keynes wrote “The General Theory of Employment, Interest and Money.” He argued that in a situation of widespread economic unemployment, as was occurring then, one could not expect natural market mechanisms to produce recovery. The state, therefore, should intervene by spending or investing to stimulate the performance of businesses and consumers.

Keynes’s explanation for emerging from the crisis and preventing future ones was accepted by most economists, who described his contributions as the Keynesian revolution.

Since then, avoiding economic fluctuations has been considered the responsibility of governments. They must implement policies that pursue more stable economic growth, aiming to eliminate cycles or mitigate their negative effects.

Economists are divided between those who believe the state should play a more prominent role and those who think the state should be limited to ensuring the proper functioning of the market.

Externalities

Externalities exist when the activity of a company or a consumer has external effects that impact others. These effects can be positive or negative for society.

When someone throws trash on the street, other people suffer the consequences. The cause of these negative externalities does not bear the consequences or pay for them.

Tobacco consumption creates significant health problems that impose a high cost on public health.

A polluting company manufactures its product more cheaply than if it installed a pollution control system. If it had to pay for the pollution it produces, there would be less pollution.

Air pollution represents a loss of welfare, but companies do not factor this cost into their calculations. Pollution is a social cost.

Because these external effects do not impact business costs, they are not reflected in the market prices of these goods. The market is misinformed about what is really happening because prices do not include the actual costs—the private costs that the company incurs plus the social costs.

On the other hand, there are positive externalities. A clear example is scientific research and discoveries that a company might make.

Another positive externality would be a beehive that pollinates the garden of a nearby farmer.

The State as a Corrector of Externalities

Essentially, there are no defined property rights for certain goods, such as a river or the air. Therefore, the state employs different measures:

1. Corrective taxes and subsidies:
   • Corrective tax: These taxes are levied on activities that generate negative externalities. For example, the tax on tobacco.
   • Subsidies: This policy aims to increase the level of production and consumption of goods or services that generate positive externalities. For example, the state might finance the reconstruction of houses in the old part of town or subsidize scientific research.
2. Establish rules that limit, restrict, or even prohibit the production of a specific good or service provision. For instance, prohibiting the location of a particular company near a river or limiting the emission of gases or noise from a specific company.

Some authors, like Coase, suggest that state intervention to limit negative externalities can sometimes cause more harm than good. These authors argue that the best way to combat negative externalities is for the parties involved to reach agreements among themselves to reduce the side effects. Negotiation is, therefore, the best solution in the case of externalities.