In terms of the fundamental equation, public policies and rights are the OUTCOMES of INSTITUTIONS (Section III) processing PREFERENCES (Section II). Take another look at the preamble to Section III.

TWO KINDS OF OUTCOME: Public policy vs. constitutional rights; e.g. the Federal Election Campaign Act of 1974 as opposed to Buckley v. Valeo (1976)
            Constitutional rights trump legislated public policy

            Legislated rights (such as a right assured by the Civil Rights Act of 1964, or by the Americans with Disabilities Act) would not (necessarily) trump other legislated policy.

            This topic is on legislated public policy, and the next one is on constitutional rights.

MARKETS as a baseline for thinking about public policy.

Microeconomic theory predicts price and quantity at competitive equilibrium, assuming perfect markets. At this point, total profits are maximized, and Pareto optimality is achieved.

        1.  Books, the items bought and sold, are private (not collective) goods. (They are not jointly supplied; and it is possible to exclude from consumption those who do not pay.)
        2.  There were no external costs to selling or consuming the books. (Books do not pollute.)
        3.  There were many buyers and many sellers
        4.   There was perfect information (by assumption there were no inferior books).

 When markets are perfect, why not let them work?

• Adam Smith (1776): "Individuals in the market intend their own gain, but are led as if by an invisible hand to promote the interests of society at large." (as indicated by Pareto optimality and maximizing total profits)

• Joseph Stiglitz (1986): "The search for profits by firms is the search for more efficient ways of production and for new commodities that better serve the consumer."

• Even with perfect markets there is a role for government in preserving law and order, protecting property rights, and enforcing contracts.

Competitive equilibrium, maximizing profits and Pareto optimality imply efficiency, but not equity.
There was (and almost always is) an unequal distribution of profits.
Was this related in any way to merit or effort?
There is no assurance that perfect markets will bring about distributions of income that are fair or otherwise desirable.

MARKET FAILURES AS A RATIONALE FOR GOVERNMENT

Numbers 1-4 below are failures to achieve the conditions of perfect markets. Number 5 is a possibility that exists even with perfect markets.

1. Insufficient supply of public or collective goods (joint supply and nonexcludability)

Remember the free rider problem with the provision of public or collective goods.

Example: states under the Articles of Confederation failing to contribute enough to support the common defense or put down insurrections like Shays's rebellion.

Government solution: government has the power to coerce taxation to enforce contributions to the provision of a collective good like national defense.

Examples: water pollution from manufacturing plants
Air pollution from the burning of fuel by plants, homes or automobiles

Government solutions: prohibition, regulation, taxes or permits. (See Shepsle, ch. 10 )
 

Recall the market experiment. Assume that there is one monopolistic supplier who can choose her price and quantity to maximize her own profits.

Government remedy: break up the monopoly. Sherman Antitrust Act of 1890. Breakup by government of Standard Oil, American Tobacco, AT&T.
Does Microsoft deserve the same thing?
 

Unsafe meats can make you sick. Untested pharmaceuticals can have side effects that are worse than the intended positive consequences. Thalidomide.

Government remedy: inspection of meat; approval by the Food and Drug Administration

1.  How much public goods? Republicans want to spend more, Democrats less on national defense.

2.   How much government intervention on negative externalities? Democrats usually want more, and Republicans, representing industry, usually want less intervention. However, upper income people care more about the environment than lower income people, so Republicans are cross pressured on this.

3.   How much intervention to prevent monopoly? Big firms have more R&D, and create more new products. Would you rather have pure competition in a market for vacuum tube radios and black and white television (made in the USA) or what we now have? The issues of Microsoft. The role of international trade. Democrats are more aggressive in enforcing antitrust laws than Republicans.

4.   Does the public gain more by bringing drugs to the market before they are tested than they might lose by the risks of untested drugs? The risks of Thalidomide vs. the hope for a cure for AIDS, etc. Not a very partisan issue.

5.  How high should the safety net be? How progressive should the income tax be? Should there be more direct redistribution? These are issues that divide Democrats and Republicans. Note role of Clinton on welfare reform.
 

GOVERNMENT FAILURES vs MARKET FAILURES?

Is there a possibility that government can make things worse?

1. Too much public goods?
2. Too much regulation?
3. Too much interference with business?
4. Too much effort to assure standards?
5. Too much redistribution?