05 Market Failure: The 6 Market Failures - monopolies, externalities, merit and de-merit goods Flashcards
Define barriers to entry (B2E).
Factors that prevent firms from entering a market profitably.
What is the B2E acronym?
LTSB
- Legal
- Technical
- Strategic
- Brand Loyalty
What are the legal barriers to entry, for a new firm?
1 - Patents - sole ownership
2- Licences/permits - expensive, and difficult to obtain
3 - Red Tape - excessive paper work
4 - Standards and regulations - health and safety, environmental, pollution, minimum wages
5 - Insurance
What are the technical barriers to entry, for a new firm?
- High start up costs
- Sunk costs - can’t be recovered when a firm leaves the market - e.g., advertising, specialist machinery
- Economies of scale - firm growth leads to lower average costs - difficult for new firms to enter the market
- Natural monopoly - new firm driven out very easily
What are the strategic barriers to entry, for a new firm?
1 - Predatory pricing - pricing lower on purpose to drive out competition
2 - Limit pricing
3 - Heavy advertising
What are the economic benefits of monopoly power?
- Research and development and dynamic efficiency
- Economies of Scale - firms could charge a lower price
- International competition - imports and exports
- Regulation (competition and markets) - can’t always make decisions that will not benefit the consumer
Define Private Costs.
A direct cost to a producer or consumer - these costs are taken into account by the price mechanism.
Define Private Benefits.
A direct benefit to a producer or consumer - these benefits are taken into account by the price mechanism.
When consumers, firms and government (or economic agents) make decisions they will consider…
the private costs and benefits.
The free market equilibrium is where…
Private costs = private benefits
Define external costs.
AKA negative externalities - negative effects on third-parties (not the producer or consumer) - ignored by the price mechanism.
Define external benefits.
AKA positive externalities - positive effects on third-parties (not the producer or consumer) - ignored by the price mechanism.
A smoker may ignore external costs, such as…
- The impact of those around them in terms of health
- Risk of fire
- A rise in taxes to fund the NHS due to more cancer patients
The private healthcare patient may ignore the external benefits, such as…
- Increasing life expectancy and therefore working longer
- Less strain on the NHS
- Productivity gains
- More enterprise out of a more wealthy population
Define social costs.
Private cost + external cost
Define social benefits.
Private benefit + external benefit
What are the private costs and benefits of higher education?
PC = cost of degree - £9,000 per annum, opportunity cost (of working) PB = increased future income, making friends
What are the external costs and benefits of higher education?
EC = some people can't afford it EB = more skill and flexible workforce
Why is higher education a market failure?
In a free market, higher education would be under consumed.
What are the private costs and benefits of cigarette consumption?
PC = Lung cancer PB = Pleasurable
What are the external costs and benefits of cigarette consumption?
EC = Passive smoking, high healthcare costs, fall in productivity and size of the workforce
Why is cigarette consumption a market fialure?
Over-consumed in a free market - it’s a de-merit good. Taxes not high due to not much government intervention.
Define diminishing marginal utility?
If the consumption of a good or service increases, the satisfaction derived gradually increases but at a decreasing rate, to the point where it reaches zero. Total satisfaction is maximised when marginal utility is zero.
On a diagram marginal private benefit is…
downward slopping - the more extra units consumed, the lower the benefit.
