A-Level Economics Model Answers
Evaluate the case for government provision of goods and services such as flood defence schemes or housing.
Here is a question and answer from the markets and market failure section of the A-level Economics syllabus.
This question is an ‘evaluate’ question - the type of question students need to practice their exam technique. In some exam boards, this is the ‘25 marker’.
I have seen so many capable students drop a few marks on these sorts of questions simply because they do not evaluate the scenario with enough scope.
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Evaluate the case for government provision of goods and services such as flood defence schemes or housing.
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Definitions
Government provision is a government intervention method where the government tries to correct a market failure by supplying a good/service. An example of this would be the NHS in the UK, where the government provides healthcare.
Market failure is where the free market mechanism fails to achieve economic efficiency and therefore social welfare maximisation.
FLOOD DEFENCES
In the case of flood defences, it can be considered to a public good. Public goods are defined as being non-excludable and non-rival. Flood defences are non-excludable, because once they are built and paid for, the benefits of the flood defence, are not excluded to just those who pay. This presents the ‘free rider’ problem. Flood defences are also non-rival, because one person benefitting from the flood defence, does not restrict another person benefitting from the flood defence. Therefore, we can define flood defences as a pure public good. It causes a market failure, because without public provision, the flood defence would not be built due to the private firms not being interested as they are not able to profit. This is an example of complete market failure.
Governments should provide flood defences, especially in high risk areas. The cost in terms of wreckage can be in the billions, people can lose homes, their livelihoods, and the external costs of these can also add up. This would have an effect of decreasing social welfare as a whole. The extract mentions that over 300,000 homes will be better protected and over £30 billion of economic damages prevented. As you can see, the costs of a flood are extremely high. The extract also mentions that flood defences would cost £2.3 billion in capital investment. If these costs are accurate, then a £2.3 billion investment, to eradicate £30 billion worth of damages, is a sensible idea. A government intervention can be deemed to be efficient if the net social benefit of the project is positive and other projects with higher NSBs do not exist.
The success of provision of flood defences would depend on the government figures being correct. If the data is not accurate, and the government is not sure of the costs vs benefits, then the government should not intervene as there is a high risk of government failure. This would, therefore, waste taxpayer money and economic resources. The government’s data could also be accurate, but it may have come at an extremely high cost to gather. This must also be taken into account. It is very difficult to calculate this accurately, because everybody has a different valuation of the environment so any flood damage can only be seen as an estimate and not a real figure.
The cost of maintenance of the project has to also be considered as the flood defence is likely to cost the taxpayer money over a number of years. Therefore, long-term costs and benefits should also be taken into account.
PROVISION OF HOUSING
In the case of government provision of housing, housing can be seen as having positive externalities when consumed, therefore owning a house can be deemed as a merit good. Families who live in houses send their children to school, work in jobs, and spend money which circulates through society. If people cannot afford to get on the housing ladder, it can lead to a bigger divide between rich and poor. In the UK, as seen from the extract, the PES for housing is less than 0.5. This means supply is inelastic, and therefore, prices have to increase severely in order to encourage a significant boost to housing supply. With a growing population, this presents a problem. Over time, people will find it more and more difficult to get on the housing ladder, unless incomes increase dramatically so people can afford the high deposits necessary.
Government provision of housing would help redistribute income to help the poorer in society. The benefits of this would ensure that more and more people find it affordable to live and have an acceptable lifestyle. It would give children a better opportunity to be educated correctly and could increase the standard of living of the next generation. This helps lessen the severity of another market failure problem: the inequality of wealth.
However, it depends on how the provision of housing is implemented. If the government plans to build more houses and sell them, they must be at an affordable price for those on lower incomes. Secondly, it is not just the price of the house that people find difficult to pay for. The ‘deposit trap’ is probably the most difficult part of buying a house for the first time. When buying a house for the first time, you are probably renting and paying a high proportion of your income in rent. At the same time, you are expected to save for a 25% deposit which is realistically in the region of £40,000+ in the UK. Some families simply cannot afford to save for the deposit they need to be accepted for a mortgage.
Thirdly, the standard of the final product is uncertain if the government supplies it. Government provided housing may not be as efficiently produced due to the potential absence of the price mechanism. Therefore, private firms may provide better quality housing as they are working to please customers and stay in business. Private firms may do the job more cost effectively, and be more specialised to carry out production. However, the government could always hire firms from the private sector to carry out the building of housing. This could make the process more efficient.
On the other hand, the quality of production carried out by a private firm may actually be worse than that of the government. The government is less likely to cut costs at the expense of quality and is likely to prioritise making their buildings safe for occupants. This is because the government’s objective is to maximise social welfare and ensuring people’s safety would therefore fall into the government’s job description.
Conclusion
In conclusion, state provision of any good or service is a way of overcoming market failure. It can increase the allocation of resources to optimal levels and increase social welfare. However, the most effective form of provision is when it is free as the full benefits are available to the consumer and it redistributes income from rich to poor. The downside of this is that it costs the government more money which could be used on other policies. Private firms can also potentially provide goods/services more efficiently than the government can. Furthermore, when the state pays, it discourages self-reliance. People may be encouraged to wait for the state to help them and not help themselves. A good example of this is overuse of the NHS and applying for council housing.
In the case of flood defences, because it is a public good, the government should provide it as nobody else will pay. This is due to the nature of the public good problem and the fact that flood defences house so many benefits for communities at risk.
The case of housing is slightly more complex. The question comes down to what type of provision. If the government were to provide housing for free, this would cost the taxpayer huge amounts of money that could be used elsewhere. Furthermore, the government is unlikely to be able to keep up with the demand. If the government instead chooses to buy and sell housing, and sell housing at a discount, this could prove beneficial as the government can make back the money spent on producing a house. This would come at less of an opportunity cost than providing houses for free. The government needs to undertake a thorough cost/benefit analysis before it is able to come to a decision on this. However, it is more likely the benefits will be the greatest if the government creates conditions where houses are more affordable and abundant, rather than supply them free of charge.
EXTRACT
Housing and flood defences A radical new approach to housing and a £2.3 billion of investment in flood defences were announced as part of the UK Government’s new National Infrastructure Plan 2014. One key proposal is for the government to plan, build and sell homes. An initial programme on a government-owned former airfield near Cambridge will see the development of 10 000 homes. This approach will fast track the development by providing certainty and making new homes available more quickly. The government will make the initial investment but expects that later costs will be met through the sale of land and homes. It will also evaluate the feasibility and economic effects of rolling out this model on a wider scale, to support and accelerate housing supply. The plan also commits to £2.3 billion of capital investment to over 1400 flood defence projects in a 6-year programme of investment. As a result, over 300 000 homes will be better protected and over £30 billion of economic damages prevented. Major projects that will benefit include £42 million for the Oxford Flood Alleviation Scheme, £80 million for the Humber Estuary and over £17 million for Tonbridge, Yalding and the surrounding communities.
(Source: adapted from https://www.gov.uk/government/news/ambitious-plans-for-housing-flood-defenceand-roads-set-out-in-national-infrastructure-plan-2014)
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