1.3 market failure

Question 1

what are the three types of market failure

Answer 1

externalities
under-provision of public goods
information gaps

Question 2

what’s an information gap

Answer 2

the information which is unknown when purchasing a product

Question 2

what’s an externality

Answer 2

the effect of a the consumption of a good or service either cost or benefit which is outside the market mechanism

Question 2

how can government intervention effect the market

Answer 2

indirect taxes and subsidies (cigarettes)
producing tradable pollution permits
provision of high welfare improving goods (NHS)
provision of information
regulation

Question 3

what is a tradable pollution permit

Answer 3

allow firms to produce up to a certain amount of pollution, and can be traded amongst firms so give them choice whilst reducing the total level of pollution.

Question 3

how does externalities effect the market

Answer 3

governments provide information on how to make good decisions
for example smoking
merit goods are positive externalities which benefit the society more than the individual

Question 4

what is an asymmetric information gap

Answer 4

when one party has superior knowledge compared to another. Usually, the seller has more information than the buyer and this means they can take advantage of the other party’s lack of knowledge, by charging them a higher price.

Question 4

how can information gaps effect the market

Answer 4

ads lead to information gaps as they are designed to make people think the benefits are more than they are
info gaps lead to market failure as people don’t maximise their welfare

Question 4

what is a symmetric information gap

Answer 4

buyers and sellers have potential access to
the same information

Question 5

what is a public good

Answer 5

Public goods are missing from the free market, but they offer many benefits to society. They have two key characteristics

Question 6

what is a public goods 2 key characteristics

Answer 6

● They are non-rivalry, which means that one person’s use of the good doesn’t stop
someone else from using it
● They are also non-excludable, meaning that you cannot stop someone from
accessing the good and someone cannot chose not to access the good.

Question 7

what’s the free rider problem

Answer 7

● cannot charge an individual a price for the provision of a non-excludable good because someone else will gain the benefit from it without paying anything. A free rider is someone who receives the benefits without paying for it.
● Private sector producers will not provide public goods to people because they cannot
be sure of making a profit , due to the non-excludability of public goods. Therefore,
if the provision of public goods was left to the market mechanism, the market would
fail and so they are provided by the government and financed through taxation.

Question 8

what is a private cost/benefit

Answer 8

cost/benefit to the individual participating in the economic activity

Question 9

what is a social cost/benefit

Answer 9

cost/benefit of the activity to the society as a whole

Question 10

what is an external cost/benefit

Answer 10

cost/ benefit to a third party not involved in the economic activity

Question 11

what’s a Quasi public good

Answer 11

they are not perfectly non rival or non excludable (e.g. roads as there could be tolls and people could use up roads (traffic))

Question 12

what is market failure

Answer 12

When the market forces do not result in the efficient allocation of resources

Question 13

Why does market failure occur?

Answer 13

The price mechanism has not taken into account all the costs and/or benefits in the production or consumption of the product or service

Question 14

What does it mean when MSC = MSB?

Answer 14

when resources are being allocated efficiently

Question 15

Define externalities in terms of production and consumption?

Answer 15

Spill over effects from the production or consumption that are not taken into account by the price mechanism.

Question 16

Why are externalities considered a market failure?

Answer 16

because they are not part of the price mechanism so they can lead to inefficient allocation of recourses

Question 17

two types of externality

Answer 17

• External costs (negative externalities)
• External benefits (positive externalities)

Question 18

Private costs of a producers

Answer 18

• Wages
• Rent
• Raw materials
• Energy

Question 19

Private costs for consumers

Answer 19

• Price paid for the good or service

Question 20

2 types of external costs (negative externalities)

Answer 20

• External costs of production
• External costs of consumption

Question 21

How to calculate external costs?

Answer 21

External costs = social costs - private costs

Question 22

What happens when there is negative consumption?

Answer 22

• External cost
• Welfare loss
• Overconsumption

Question 23

Private benefits for producers

Answer 23

revenue they gain from sales

Question 24

private benefit from consumers

Answer 24

• Utility (satisfaction) gained by consumers from consumption of good or service

Question 25

What happens when there is positive consumption?

Answer 25

• There is an external benefit
• Welfare gain
• Underconsumption

Question 26

What advantage makes public goods unique

Answer 26

• The benefit that they provide effects ,any people rather than just one individual

Question 27

Public goods vs Private goods

Answer 27

• Private goods are rival and excludable
• Consumption of one person means that it cannot be consumed by anyone else and is not available to anyone else

Question 28

What main assumption is the free market based on?

Answer 28

• Consumers and producers make rational decisions and choices that are based on perfect and equal market knowledge

Question 29

Why are information gaps a market failure?

Answer 29

• It is an unrealistic assumption
• Producers may have more information than consumers
• Consumers may not have sufficient or adequate information

Question 30

What is the result of asymmetric information?

Answer 30

• Resources may be allocate inefficiently
• Results in market failure

Question 31

What is underprovision of public goods

Answer 31

Public goods are non rivalry and non excludable meaning they are underprovided due to the free rider problem