Effect of Institutions and Governments Policy On The Economy

The Effect of the State on Political Economy

The effect of the state on a nation's political economy as well as its outcomes are discussed in O'Neil's first text. Different states use a dominant ideology to shape their economies, which then decides the prevailing political economy. Controlling the markets (which are the forces of supply and demand), private ownership and rights, as well as public goods, is one way to do this in the political economy. (indivisible goods owned by the state). Through social welfare programs, the state also distributes money to those who require more care. It is also the state that comes up with taxation policies to fund public goods and social welfare programs. This role of the state extends to controlling economic growth and the general economic factors such as inflation, deflation or hyperinflation by controlling the supply of money to the economy or lowering or raising interest rates through its institution of the central bank and regulating trade. An example is given in the text on how Venezuela under President Hugo Chaves controlled these aspects. All these policies aggregated, determine the political, economic system employed by a government as either liberalism, social democracy, communism or mercantilism. The outcomes of the political, economic policies chosen by states can then be compared using various indicators such as gross domestic product (GDP) ,purchasing power parity(PPP) ,Gini index, human development index(HDI) and the happiness index to determine their effect on the economy and living standards of the people.<\/p>

The Evolution of Institutions and Economic Growth

In the second text, several authors discuss the evolution of institutions and their effect on economic growth. Institutions in their incentives directly influence the growth of an economy, and this has been proved in the course of history. Economies grew from simple setups and increased in specialization, the division of labor and use of better technology. As the trade grows, need arises for agency and enforcement of contracts as well as protection of goods. However, the system of exchange may or may not evolve. In some primitive institutional settings such as tribal society, Suq (regional economy with bazaar trading) in northern Africa and the middle east and the long-distance caravan trade, evolution towards more productive economies did not quickly occur based on proven skills and knowledge. However, long-distance trade in Europe evolved in its organization by using innovations that increased the availability of capital, reduced cost of information, and enabled the spreading of risk by businesses. This growth led to the formation of what is now the western world. It was the divergent paths taken in the design of their institutions by countries at that time that determined whether they rose or decline in economic power as was the case with England and Spain. While some scholars try to explain the current divide in the prosperity of various nations by citing a geographical influence, it is the difference in the development of institutions that most suitably explains this situation. This shows the huge role schools have on the health and the growth of economies.<\/p>

The Power of Government Policies on the Economy

The first text shows the power a government has on the economy through the various policies it puts in place to control the political, economic environment. The government through its regulation of trade can protect local industries, and through adjustment of interest rates, it can spur economic growth. The government's policies on public goods also affect the availability of essential utilities by citizens hence determining their living standards. Through its taxation policies, it can either repel or attract investors into the economy (Auerbach and Smetters, 112). All these aspects indicate the secure hold a government has on the economy.<\/p>

The Influence of Institutions on Economic Development

The second text shows the historical evidence of the influence of institutions on the economic development. It shows how ancient economies grew from just intra-village exchanges of goods to other community exchanges to bazaars and then into the long-distance trade. These savings then managed to change their institutional frameworks which led to their growth gradually. Without the policies used evolving, it is doubtful that they would have enjoyed the same economic growth.<\/p>

The Role of Governments in Economic Growth and Stability

By considering these two texts, one can argue that just like it has been proven in the course of history that proper organization of institutions and their implementation of set policies positively developed historical European economies, then as we stand currently the policies put in place by governments in controlling the social, economic environments have a similar effect on economies. Safe and stable policies will lead to economic growth while weak ones will result in an economic downfall (Rodrik, 103). This was true in the case of Zimbabwe. Moreover, just like policies set in place by institutions evolved during the long-distance trade in Europe, countries today must be ready to adjust their strategies with time to avoid declines in economic growth as was the case in Venezuela.<\/p>


In conclusion, the state being a major institution in the organization of the world as it is now has a significant role to play in ensuring it enjoys economic growth and stability. This is done through implementing various policies that collectively determine the political-economic system of the country. Alternatively, a state can adopt one of the central political-economic systems and use it as the basis of the policies it comes up with (Cohen, 210). Governments must, therefore, be prudent and firm on the plans they come up with for the benefit of the economy and the citizens.<\/p>

Works Cited

Auerbach, Alan J., and Kent Smetters, eds. The Economies of Tax Policy. Oxford, UK: Oxford University Press, 2017:352. Print.

Cohen, Solomon. Economic Models for Policy Making: Principles and Designs Revisited. London, UK: Routledge, 2013:424. Print.

Rodrik, Dani. One economics, many recipes: globalization, institutions, and economic growth. Princeton, NJ: Princeton University Press, 208:263. Print.

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