There are three broad schools of thought to explain the role of the government in the economy: the classical or liberal school, the Marxist school, and the Keynesian school.
The classical school advocates a limited role for government, arguing that the government is best that governs the least. It means the role of the government should be as minimal as possible, where the government should work as the facilitator and regulator of the market. This school of thought believes that the efficiency and productivity of the private sector are higher than those of the government. So, the government should create a private-sector-friendly environment and correct market failure, and the government should implement effective regulation. Under this thought, the role of the government is limited to maintaining law and order for life and property security, basic public goods, and basic health and education only.
The Marxist school of thought assumes the unlimited role of the government, where there is no role of private sector. Under this thought, the market or private sector is full of injustice that does not care about the common people. It is argued that the government has better information about the needs and priorities of the economy and society. So, the government should take care of the whole economy. According to this thought, the one and only goal of the government is to maintain equity and maximize social welfare where the market or private sector cannot do so. It means every economic activity, such as production, distribution, and consumption, should be carried out by the government’s decision.
Under the Keynesian school of thought, both the government and the private sector have their respective role in the economy. It follows the mixed approach, where the private sector works for business and profit, whereas the government works for social welfare. According to this thought, the government should work as the guardian of the economy. If the private sector is not fully mature or capable of growth and employment creation, then the government has this responsibility as well. Similarly, if the economy is in an abnormal situation or in crisis, then the government is the rescuer of the economy.
Whatever the school of thought, the role of the government can broadly be classified into
- Allocative role: Law and order
- Distributive role
- Stabilization role
1. Allocative Role:
The role of the government is related to the efficient allocation of resources. Since the resources are limited, the government’s role is to allocate these resources in the most productive or efficient sector. In some cases, the government may be more efficient than the private. For example, in the provision of public goods, the private or market sector is more efficient. So, the government should ensure the best use of the resources in the economy. Under this role, the government should correct the market failure through effective regulatory measures/policy in order to make the market more efficient. Since markets are more efficient than the government, the government should promote or facilitate the private sector through private sector friendly polocies and programs. This helps to maximize the output of the economy, ensuring allocative efficiency.
2. Distributive Role:
This role is related to making the distribution in society and maintaining distributive justice. Since every individual and community is not equally competitive, the role of the government is to make everyone equally competitive and ensure equal opportunities and access in society and the economy. Under this role, the government should invest in public health, education, and sanitation to enhance the capacity of the poor and low-income communities, where such investment works as a social equalizer.
Similarly, the role of the government as social security, such as senior citizen allowance, health insurance, etc., helps the poor and sisadvantages community. Pro-poor policy and programs, as well as investment in rural infrastructure by the government, are related to the distributive role.
3. Stabilization Role:
The role is related to maintaining the macroeconomic stability of the economy. The economy may face ups and downs, or there is a business cycle. So, the role of the government is to stabilize the economy through appropriate counter-cyclical policies. If there is a recession or depression, then the government should use an expansionary policy, such as government expenditure and reducing taxes, to increase the aggregate demand and stabilize the economy. It means the government’s role during an abnormal or crisis is a stabilization role.
- Allocative Efficiency
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- Law and order for the security of life and property
- Private sector-friendly policies and programs
- Public goods
- Correction of market failure (e.g. carteling, syndicate)
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- Distributive Justice
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- Investment in public health and education
- Rural infrastructure
- Social security
- Pro-poor (free health, free education, insurance)
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- Stabilization Role
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- Inflationary
- Recessionary
- Crisis fund
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