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The Role of Government in a Market Economy

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Instructor: Christine Serva

Christine has an M.A. in American Studies, the study of American history/society/culture. She is an instructional designer, educator, and writer.

Governments often take a secondary role in a market economy, imposing minor regulations to support their interests. Explore the role of government on the economy related to environmental protection, consumer and property rights, and public services. Updated: 11/10/2021

Definition of Market Economy

A market economy is a system in which the supply and demand for goods and services plays a primary role in a competitive marketplace. In your own life, you can see the market economy at work when you look at prices. For example, when you go to buy a banana, the price has a lot to do with how many people want to buy bananas, and how many bananas are available.

In this lesson, we'll consider what role the government can play in this form of economy. Note that there is a great deal of disagreement among politicians about just how much influence government should have in market economies. We'll use this lesson to cover the basic concepts, not the detailed controversies.

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  • 0:00 Definition of Market Economy
  • 0:45 Role of Government
  • 1:10 Environmental Protection
  • 2:00 Consumer Rights &…
  • 3:27 Public Service and Protection
  • 4:05 Lesson Summary
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Role of Government

In a market economy, individuals and private companies play more of a central role than the government. This means that the price of bananas may be influenced by certain government policies but is mainly driven by consumers and companies going about their business. So, when does the government get involved in a market economy? Let's imagine for a moment that the government played no role at all. What risky things might happen that would be really bad news for most people?

Environmental Protection

Let's take a look at a hypothetical business, the Yellow Fruit Company, which grows and distributes bananas. We'll call its competitor the Curved Fruit Company. Imagine that the Yellow Fruit Company has found a way to grow bananas more quickly and efficiently but also increases the effects of pollution. To compete with the Yellow Fruit Company, the Curved Fruit Company has to use the same new process, which leads to an increase in pollution. If left to the market alone, these two companies would double the number of additional pollutants to the environment. While the new method is a more economically efficient way to grow bananas, nature and people will suffer. At this point, the government plays a role in the market economy by setting rules about environmental pollution. That way, the Yellow Fruit Company and the Curved Fruit Company both have to abide by the rules while competing on equal terms.

Consumer Rights

A market economy with no government intervention also has the potential to trample on some of the rights we usually take for granted. For instance, have you ever seen the price of gas suddenly shoot up sky-high during a natural disaster? At times like these, certain businesses take advantage of an emergency situation by price gouging, or Inflating the price of a needed good to turn a profit. Not all price increases are considered price gouging, but when the issue does arise, the government may step in to protect consumers. In addition, when one company grows so large that it controls an entire market for a product or service, the government may also take steps to prevent a monopoly, which is when one company controls the supply (and thus profit) of a particular type of product or service, and restore competition back to the industry.

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