1.3 - Market Failure Content Flashcards
1.3 - Market Failure
What are the 3 main types of market failure?
1.3.2 - Externalities
- Externalities (under or overproduction).
- Under-provision of public goods (by the private sector, due to free-rider problem).
- Information gaps (Resources not allocated to maximise social welfare)
1.3 - Market Failure
Define externalities?
1.3.1 - Types of market failure
The cost or benefit a third party receives from an economic transaction.
1.3 - Market Failure
What are External costs / benefits
1.3.2 - Externalities
The costs / benefits to those participating in the economic transaction.
1.3 - Market Failure
What are External costs / benefits
1.3.2 - Externalities
Costs / benefits to the third party.
1.3 - Market Failure
What are Social costs / benefits?
1.3.2 - Externalities
Costs / benefits of the activity to society as a whole
1.3 - Market Failure
What is a merit / demerit good?
A good with external costs / benefits.
1.3 - Market Failure
What 2 things are public goods? Give an example
- Non-rivalrous
- Non-excludable
A fireworks display
1.3 - Market Failure
What does non-rivalrous mean?
One person’s use does not stop another person. (Both still receive benefit).
1.3 - Market Failure
What does non-excludable mean?
You cannot stop someone from accessing the good and someone cannot choose not to access the good.
(Person always receives benefit)
1.3 - Market Failure
What is the free rider problem?
You cannot charge an individual for a non-excludable good. People will use without paying therefore it will not be profitable
1.3 - Market Failure
Why are public goods not found in a free market economy?
Due to the free rider problem, public goods are not profitable - you cannot charge an individual for use of a non-excludable good
1.3 - Market Failure
What are information gaps?
Asymmetric information where one party has superior knowledge. Can be caused by advertising and leads to misallocation of resources.
1.3 - Market Failure
What is Symmetric information?
Consumers and producers have potential access to the same information.
1.3 - Market Failure
What is asymmetric information?
Consumers and producers don’t have the same information.
1.3 - Market Failure
What is an example of a merit good? (Where the social benefit > private)
Toothpaste
1.3 - Market Failure
What is an example of a demerit good (Private benefit > social)
Cigarettes
1.3 - Market Failure
What is the supply curve also known as
MPC (Marginal Private Cost)
The cost to firms to make the product
1.3 - Market Failure
What does the MSC represent?
Marginal Social Cost - the cost to society per unit.
1.3 - Market Failure
What does Pso and Qso represent?
The socially optimum price and quantity.
1.3 - Market Failure
Where should the economy produce?
Where MSB=MPC
The market produces where MPB=MPC
1.3 - Market Failure
What could the gov. provide (provision of good / service)
Any g/s where social benefits are very high.
E.g. healthcare / education
1.3 - Market Failure
What are two examples of information gaps
- Adverse Selection: In the used car market, sellers may have more information about the car’s condition than buyers. Buyers may be cautious because they fear purchasing a lemon.
- Moral Hazard: Insurance markets can suffer from moral hazard. When individuals have insurance coverage, they may take on riskier behaviors because they are protected from the full consequences of their actions.
1.3 - Market Failure
When do Positive consumption externalities occur?
Social benefits are greater than social costs.
1.3 - Market Failure
Give 2 evaluations for externalities:
- It can be difficult to work out size of externality - placed on value judgements. (Difficult to monetise external costs (Hayek’s criticism of Pigou)).
- Many externalities due to info. gaps - people unaware of implications.
1.3 - Market Failure
How does govt. intervention such as ind. taxes + subsidies inc. social welfare?
Subsidies - merit goods
Ind. taxes - demerit goods
(Helps to internalise externality - POLLUTER PAYS - moving production closer to social optimum position through pigouvian tax).
1.3 - Market Failure
What is a merit good?
A good with external benefits - greater benefit to society than the individual.
1.3 - Market Failure
What is a demerit good?
A good with external costs - the cost to society is greater than to the individual.
1.3 - Market Failure
Why can indirect taxes be bad for consumers?
The increases CoP can be transferred to them via higher prices (Consumer burden)
1.3 - Market Failure
Why might the govt. provide information?
Externalities = associated with info. gaps.
Govt. provides info. so eco agents make informed decisions + acknowledge external costs.
1.3 - Market Failure
Why is a street light a public good?
Has two characteristics: cannot stop person from using it, their use doesn’t prevent yours.
1.3 - Market Failure
What are non-pure public goods also referred to as? Define them:
Quasi-public goods.
(Goods which aren’t perfectly non-rivalrous / excludable).
1.3 - Market Failure
Why do public goods have to be provided by govt.?
Due to free-rider problem, PGs are non-excludable - cannot be sure of making a profit ∴ not provided by private sector producers.
1.4 - Government Intervention
What are the problems at PeQe? Three things.
- MSC>MPC
- Price mechanism ignores externtal costs
- 3rd party is not compensated for external costs
1.4 - Government Intervention
Why is it good to produce at PQ?
- AT P* Q*
- Marginal Social Benefit = Marginal Social Cost
- P* reflects the external cost
- Good is not overproduced.
