Free markets are frequently thought of as having little to no government intervention. In practise, nevertheless, governments do intervene to maintain market stability, manage transactions, create institutional structures, and uphold laws governing property rights and contracts. When markets fail, governments can also step in and take emergency measures like bailouts.
This article will examine how the government impacts the economy and industry in ways that frequently have unanticipated results.
· Currency and Inflation
Inflationary money first seems fantastic, especially for investors who witness soaring corporate profits and share prices, but in the long run, it results in a general depreciation of value. Savings have no value, which punishes bond purchasers and savers. This is excellent news for debtors since they now have to pay less to pay off their obligations, which hurts those who purchased bank bonds based on those loans once again. This increases the allure of borrowing, but interest rates quickly rise and eliminate that allure.
· Interest Rates
Despite frequently being used to fight inflation, interest rates are still a powerful tool. This is due to the fact that they may boost the economy by lowering borrowing costs. Instead of hiking interest rates, the Federal Reserve should consider lowering them to encourage businesses and consumers to borrow more money and make more purchases.
Unfortunately, this may also result in asset bubbles, in which enormous sums of wealth are lost abruptly rather than gradually as happens with inflation. This takes us to the third method the government can affect the market.
Bailouts can distort the market by altering the rules so that failing businesses can survive. These rescues frequently have a negative impact on the rescued company’s lenders or stockholders. Under normal market circumstances, these companies would cease operations and sell their assets to more productive businesses in order to pay their debts and, if at all feasible, shareholders. Fortunately, the government only employs this power to safeguard the most crucial sectors, like the banking, insurance, aviation, and automobile industries.
· Subsidies and Tariffs
Banks and other financial institutions are strongly motivated to offer advantageous terms to companies that get government assistance. More money and resources will be invested in that business as a result of the government’s preferential treatment and financing, even if the only competitive edge it has is government assistance. Other, more internationally competitive industries are impacted and must now work harder to get finance as a result of this resource drain. This impact can be more prominent when the government serves as the primary customer for some businesses, which has been known to result in overcharging contractors and ongoing project delays.
Regulations and Corporate Tax
The fact that the business community seldom criticises bailouts to specific industries may be due to the possibility that their sector would also want assistance in the future. However, Wall Street does have concerns about taxes and regulations. That’s because regulations and taxes can have a detrimental effect on profitability, but subsidies and tariffs can provide a business a comparative edge.
High corporation tax rates have a different impact in that they could deter businesses from entering the nation. Countries with lower taxes tend to draw any movable corporations, just as low-tax states might entice businesses away from their neighbours. Even worse, businesses who are unable to relocate wind up having to pay a higher tax and suffer from a lack of investment capital as well as a competitive disadvantage.
Which Country Has the Freest Market?
Singapore tops the list of countries with the most open markets, according to the Heritage Foundation’s Index of Economic Freedom. Switzerland, Ireland, New Zealand, and Luxemburg come after this. The United States is ranked at a mediocre 25th position.
Why Do Governments Need to Impose Certain Regulations?
Free markets can only function effectively if all players, including buyers and sellers, producers and consumers, have complete knowledge, or what economists refer to as “perfect information.” However, in fact, some vendors could be scammers and businesses might take shortcuts to provide subpar goods. An information imbalance exists here. While the market may ultimately recognise and penalise such unscrupulous actors, customers may suffer serious consequences in the meanwhile, both financially and otherwise. Regulations are therefore implemented to address the knowledge imbalance and safeguard consumers.