Long-Term Investment Decisions

Topics: Externality, Market failure, Economics Pages: 5 (1426 words) Published: May 7, 2013
Stephanie Piris
ECO 550
Dr. Gerace
Assignment 4
December 20, 2012

Long-term Investment Decisions

1. Explain why government regulation is or is not needed, citing the major reasons for government involvement in a market economy. Provide support for your explanation.
In a free market economy, buyers and sellers freely trade with each other according to their own self-interest and the laws of supply and demand. Competitive market forces efficiently allocate resources. The role of government is limited to controlling the law and order of a country, but most people agree that society needs some form of government regulation and public policy in order to balance public and private interests and promote economic growth. One major reason for government involvement in a market economy is externalities. Externalities come about when economic activity has an unintended effect on a third party that is not directly involved in a transaction (Jack Welsh Management Institute, 2012). Externalities can be negative or positive to society. Examples of negative externalities are damage to the ecosystem, loss to the tourism industry, etc. The fundamental problem with a negative externality is how to measure the full social cost associated with economic activity. A positive externality happens when the production or consumption of a good or service benefits a third party who did not pay for that benefit. Education, for example, benefits society as much as it benefits the individual. Educated people tend to spur higher productivity for companies, create new inventions, and generate taxes from salaries.

2. Justify the rationale for the intervention of government in the market process in the U.S.
The use of private goods and public goods would be the rationale for the U.S. government to intervene in the market process. Private goods are exclusionary and limited in the sense that when you use them, other people cannot. An example would be food and clothing. And because these kinds of goods are limited, it can induce competition among consumers. Public goods, on the other hand, do not induce competition among consumers. They are funded by the government. They are products and services that everyone can use. For example, national defense, police and fire protection, public television, and radio, does not reduce the availability or benefit to use when someone else is in use of it. Public goods are therefore non-exclusionary, meaning that it is impossible to prevent the benefits of the public good from spreading to others who are also in need of it. The U.S. government must fund things that are in society’s best interest overall. The government aims for a project that has net positive benefits from a cost-benefit perspective. For example, to build a public road that will provide faster access to the interstate, private property can be taken by eminent domain. Those who travel on an everyday basis will gain from a faster connection but those private property owners will lose their land and may not even receive compensation equal to the land’s value including personal memories. A public good or service should be supplied up to the amount where marginal social cost equals marginal social benefit. Social benefits are maximized when each government project or public investment's ratio of marginal social benefits (MSB) equals its ratio of marginal social costs (MSC) across all programs (Jack Welsh Management Institute, 2012). The government can make use of the same economic tools as the private sector. If MSB/MSC is greater than 1, net marginal benefits to society can be achieved through public-sector expansion. If MSB/MSC is less than 1, resources are being wasted. Effective government practice in the market process requires a comparison of marginal social benefit of a public good against the marginal social cost.

3. Assume that the company’s is considering a merger. The possible merger currently faces some threats and that the...

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Jack Welsh Management Institute (2012). Managerial Economics: Government in the Market
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Ludwig, M., Van Merode, F., and Groot, W. (2010). Principal agent relationships and the
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