1.3 Market Failure

Question 1

Market failure

Answer 1

Where the market fails to allocate scarce resources efficiently

Question 2

Externalities

Answer 2

The cost or benefit a third party receives from an economic transaction (spillover effect)

Question 3

Positive externality

Answer 3

An external benefit to a third parry where SB exceeds PB. The market mechanism charges a price too high and fails to recognise all the benefits

Question 4

Negative externality

Answer 4

An external cost to a third party where SC exceeds PC. The market mechanism charges a price too low and fails to recognise all the costs

Question 5

Private costs/benefits

Answer 5

The costs/benefits to the individual participating in the economic activity

Question 6

Social costs/benefits

Answer 6

The costs/benefits of the activity to societies as a whole

Question 7

External costs/benefits

Answer 7

The costs/benefits to a third party not involved in the economic activity

Question 8

Merit good

Answer 8

A good with external benefits (positive externalities) where the MSB is greater than the MPB. These are usually under provided by the free market and under consumed as consumers fail to recognise the full benefits

Question 9

Demerit good

Answer 9

A good with external costs (negative externalities) where the MSC is greater than the MPC. They tend to be over provided by the free market and over consumed as consumers fail to recognise the full costs

Question 10

Net welfare gain

Answer 10

Where social benefits exceed the social costs

Question 11

Net welfare loss

Answer 11

Where social costs are greater than social benefits

Question 12

Socially optimal point

Answer 12

The target point to eliminate externalities where MSB=MSC

Question 13

Market equilibrium

Answer 13

Where private costs = private benefits (s=d)

Question 14

Marginal cost/benefit

Answer 14

The extra cost/benefit of producing /consuming one extra unit of a good

Question 15

Marginal private benefit

Answer 15

The extra satisfaction gained by the individual from consuming one more of a good

Question 16

Marginal social benefit

Answer 16

The extra gain to society from the consumption of one more good

Question 17

Marginal private cost

Answer 17

The extra cost to the individual from producing one more of a good

Question 18

Marginal social cost

Answer 18

The extra cost to society from the production of one more good

Question 19

Public goods

Answer 19

Goods that are non rivalrous and non excludable but are under provided by the market due to there being no profit incentive

Question 20

Non rivalry

Answer 20

One persons use of the good does not stop someone else from using it

Question 21

Non excludable

Answer 21

You cannot stop someone from accessing the good and someone cannot choose not the access the good

Question 22

Private goods

Answer 22

Goods provided by the market mechanism which are rivalrous and excludable

Question 23

Quasi public good

Answer 23

A good or service that displays some but not all the characteristics of a public good e.g a busy road

Question 24

Free rider problem

Answer 24

Someone may receive the benefit of good that they haven’t paid for e.g reading a newspaper on the train that someone else has bought and is also reading

Question 25

Information failure

Answer 25

Where consumers, producers or the government fail to recognise the full costs or benefits of consumption our production.

Question 26

Symmetric information

Answer 26

Occurs where buyer and sellers have potential access to the same information

Question 27

Asymmetric information

Answer 27

Where one party has superior knowledge to another (usually the seller)

Question 28

What leads to info gaps

Answer 28

Most advertising leads to info gaps as it is designed to change attitudes of the consumer to encourage them to buy the good (however increased technology= less info gaps)

Question 29

Info gaps causing market failure

Answer 29

There is a misallocation of resources as people do not buy things to maximise their welfare. Consumer demand may be too high or low for a product leading to price and quantity not being at the socially optimal point. Economic agents unable to make rational decisions due to info gaps

Question 30

Principal-agent problem

Answer 30

The goals of the person who gains or loses from the decision are different from those making the decision on behalf of the principle