1.3 Market failure

Question 1

what is market failure?

Answer 1

an inefficient distribution of goods and services in a free market

Question 2

what are externalities?

Answer 2

spill over of production or consumption for which no appropriate compensation is payed to one (or more) of the third parties involved

Question 3

what goods cause negative externalities?

Answer 3

demand goods, demerit goods are always over produced and over consumed

Question 4

why are externalites not reflected in the market price?

Answer 4

they lie outside the initial market transaction

Question 5

what are private costs?

Answer 5

the costs faced by the producer or consumer directly involved in a transaction (to the firm)

Question 6

what are external costs?

Answer 6

the costs imposed on third parties as a result of a transaction they are not directly involved

Question 7

what are social costs?

Answer 7

private costs+external costs (total cost to society)

Question 8

when do external costs occur?

Answer 8

when the activity of one agent has a effect on the wellbeing of a third party

Question 9

who do external costs damage?

Answer 9

third parties, but the consumer and producer don’t have to pay, meaning that output will be too high
- production externalities cause the market price to be too low

Question 10

Marginal private cost?(MPC)

Answer 10

cost to the producing firm of producing an additional unit of output or costs to an individual of any economic action

Question 11

Marginal social cost?(MSC)

Answer 11

total cost to society of producing an extra unit of output. MSC = MPC + MEC

Question 12

Marginal external cost?(MEC)

Answer 12

cost to third parties from the production of an additional unit of output

Question 13

when explaining why’s something’s a public or private good what do you need to do?

Answer 13

have a point for why its
- non rival
- non excludable
separately to get two marks

Question 14

examples of negative externalities of production?

Answer 14

• air pollution
• pollution from fertilisers
• industrial waste
• noise pollution
• methane emissions

Question 15

how do you draw a diagram to show negative externalities?

Answer 15

if there are negative externalities we must add the external costs to the firms supply curve,MPC curve to find the MSC
y axis:quantity
x axis:cost
line downwards:MPB
line upwards (top):MSC
line upwards (below):MPC
triangle between MSC AND MPC is the welfare lost

Question 16

how can you find the socially optimum point firms should be operating at?

Answer 16

the point where the MPB meets MSC

Question 17

why do negative externalities cause market failure?

Answer 17

• extra socks not included in price
• price too low
• produces too much of that harmful product
• welfare lost

Question 18

what can be done to help solve negative externalities?

Answer 18

• increase taxes
• create stricter policies

Question 19

what do merit goods create?

Answer 19

positive externalities (always under produced and consumed) and social benefits from external benefits and private benefits

Question 20

Marginal private benefit?(MPB)

Answer 20

benefit to the consumer of consuming an additional unit of output

Question 21

Marginal external benefit (MEB):

Answer 21

benefit to third parties from the consumption of an additional unit of output

Question 22

how do you draw a diagram to show positive externalities?

Answer 22

y axis:quantity
x axis:cost/benefit
line downward (above):MSB
line downward (below):MPB
line upwards:MPC=MSC
the triangle between MSB and MPB is the welfare gain

Question 23

how does the positive externalities show market failure?

Answer 23

• extra benefit not included in price
• price too low
• consumes too little of beneficial thing
• welfare gain

Question 24

examples of positive externalities?

Answer 24

• NHS
• Public libraries / community spaces
• Museums and Galleries
• Free school meals
• Education

Question 25

what are public goods?

Answer 25

a commodity or service that is made available to all members of a society eg flood defence programmes or the police

Question 26

what are private goods?

Answer 26

those whose ownership is restricted to the group or individual that purchased the good for their own consumption

Question 27

what are the main characteristics of public goods?

Answer 27

- non excludability (can't stop people having it) - non rival consumption (one person having it doesn't stop anothers) - non rejectable (the collective supply means it can't be rejected eg flood defences) NOT THAT MADE BY PUBLIC SECTOR

Question 28

what is the main issue with public goods?

Answer 28

causes market failure because of the missing markets

Question 29

what are the main characteristics of private goods?

Answer 29

- excludability, buyers can be excluded from enjoying the product if they are not willing and able to pay for - rival in consumption, one persons consumption stops anothers

Question 30

what is the free rider problem?

Answer 30

once a public good is provided it is impossible to stop all people receiving the benefit of its there is very little reason for people to pay for it ➡️ under-provision of a good causing market failure

Question 31

arguments that the govt should provide public goods?

Answer 31

- if the govt don't provide them no one will - only that state can force people to pay (through tax) - proving essential public goods helps affordability and access to important services for lower income households - may help to promote under-provision and under-consumption - sometimes state will fund and private sector provides goods - govt can provide goods more efficiently because of the economies of scale

Question 32

arguments that the govt should not provide public goods?

Answer 32

- taxation may need to be increased fro everyone so that some benefit - the country is in debt, can it afford to provide public goods - if the govt becomes a monopoly provider there is a danger of a lack of efficiency from lack of competition - carries large opportunity cots, spending money on this will stop spending elsewhere

Question 33

evaluation for wether the government should provide public goods?

Answer 33

Due to societal responsibility of the government it should provide public goods as this is the only way for us to live.Economically it is most significantly beneficial for long-term growth as captain is being increased making the country more widely competitive.As a result of this the government will gain more revenue from tax without having to raise it due to the growing economy which will mean households and corporations will have more taxable wealth.Although this depends on the scope of the government intervention if they provide too many public goods.It may lead turn unfair society where taxes are raised for some to pay for public goods that everyone enjoys. The significant effect of this would be disposal incomes decreasing resulting in a full of GDP due to less consumption.Another significant impact could be cost-plus inflation created due to the government increasing the spending therefore it is important for the government to be selective when deciding which goods to provide insurance but it's a good majority would benefit from to make the cost worth it.

Question 34

what is symmetric information?

Answer 34

consumers and producers having the same level of knowledge (when markets will work best)

Question 35

what is asymmetric information?

Answer 35

when somebody knows more than somebody else in the markert, this can imbalance and distort choices

Question 36

how does imperfect market resources (eg wrong quantity being bought due to lack of knowledge) cause market failure?

Answer 36

- if individuals had better information on the benefits to themselves of consuming a good the marginal private benefit curve would shift outwards leading to a higher equilibrium quantity