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A level (Economics)- Microeconomics paper one > 4.1.8 - The market mechanism, market failure and government intervention in markets > Flashcards

4.1.8 - The market mechanism, market failure and government intervention in markets Flashcards

1
Q

What does the price mechanism determine?

A

The market price

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2
Q

How are resources allocated in a free market economy?

A

Through price mechanism

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3
Q

What three main functions to allocate resources foes the price mechnaism use?

A
  • Rationing
  • Incentive
  • Signalling
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4
Q

How does the price mechanism use rationing to allocate resources?

A

-When there’s a scarce resource prices increase due to excess demand
- The increase in price discourages demand and consequently rations resources.

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5
Q

How does the price mechanism use incentives to allocate resources?

A
  • This encourages a change in behaviour of a consumer or producer.
  • e.g ‘ A high price encourage firms to supply more to the market because its more profitable’
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6
Q

How does the price mechanism use signalling to allocate resources?

A
  • The price acts as a signal to consumers and new firms entering the market
  • The price changes show where resources are needed in the market.
  • High price signals firms to enter the market because it’s profitable.
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7
Q

What are some of the advanatges of the price mechanism and of extending its use into new areas of activity?

A
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8
Q

when does market failure occur?

A

whenever a market leads to a missallocation of resources

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9
Q

What is a misallocation of resources?

A

When resources are not allocated to the best intrests on society.

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10
Q

What is not maximised where there is market failure?

A
  • Economic and social welfare is not maximised where there is market failure.
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11
Q

What are the types of market failure?

A

Externalities
Monopolies
Under provision
Information gaps
Inequalities in the disctributions of income and wealth

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12
Q

What’s complete market failure and when does it occur?

A
  • Complete market failure occurs when there is a missing market. The market does not supply the products at all.
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13
Q

What’s partial market failure and how does it occur?

A
  • Partial market failure occurs when the market produces a good but it is the wrong quantity or the wrong price.
  • Resources are misallocated where there’s partial market failure,
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14
Q

What’s an externality?

A

An externality is the cost or benefit a third party recieves from an economic transaction outside of the market mechanism.

It’s the spill-over effect of the production or consumption og a good or service.

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15
Q

What is a negative externality and how is it caused?

A
  • Negative externalities are caused by the consumption of demerit goods e.g cigarettes.
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16
Q

What’s positive externality and how is it caused

A
  • They are caused by the consumption of merit goods such as recycling schemas
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17
Q

How does the underprovision of public gooods lead to market failure?

A

Public goods are non excludable and non rival and they are underprovided in a free market because of the free rider problem.

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18
Q

How does information gaps leads to market failure?

A
  • It is assumed that consumers and producers have perfect information when making economic decisions.
  • Imperfect information leads to a misallocation of resources.
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19
Q

How do monopolies lead to market failure?

A
  • Since the consumer has very little choice where to buy the goods and services offered by a monopoly they are often overchanged.
  • This leads to the under-consumption of the good or service and therefore is a missallocation of resources since consumer needs and wants are not met.
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20
Q

How do inequalities in the distribution of income and wealth lead to market failure?

A
  • There is an unequitable distribution in income and wealth
  • Income refers to a flow of money, while wealth refers to a stock of assets.
  • This can lead to negative externalities such as social unrest.
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21
Q

What is a public good?

A

Public goods are missing from the free market, but they offer benefits to society.

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22
Q

Give an example of a public good?

A
  • street lights
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23
Q

What are some of the characteristics of Public goods?

A

-Non -excludability
-Non rival.

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24
Q

What does it mean if a good is non excludable?

A

People cannot be stopped from consuming the good even if hey haven’t paid for it

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25
Q

What does it mean if a good is non- rival?

A

One person benefitting from the good doesn’t stop others from also benefitting

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26
Q

What are private goods?

A

People have a choice to whether they want to consume it or not (private goods)

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27
Q

What are some private good characteristics?

A
  • Excludable
  • exhibit rivalry
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28
Q

Give an example of a private good?

A

Biscuit - if you eat it you stop others from eating it

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29
Q

What are pure public goods?

A
  • Lighthouses
  • streetlights
30
Q

What are quasi- public goods?

A
  • Public goods that exhibit the characteristics of a private good.
31
Q

Give and explain an example of quasi good?

A

Roads
They have the characteristics of a public goods.They are free for everyone to use and one person using the road doesn’t prevent others from also using it .
However, tolls can make the road excludable by excluding those who don’t pay to use the roads and cogestion will make a road exhibit rivalry as there’s a limit to the number of people who can benefit from the road.

32
Q

How can new technology change a good that once had the charactersitics of a public good into a private good?

A

For example, Analogue television broadcasting has some characteristics of a public good - if you own a tv and an aerial then TV broadcasting are non-rivalrous and non excludable.

However, the intervention of digital technology has meant that channels can be encrypted to ensure that if people want a certain channel they must pay for it.

33
Q

What does the non- excludability of public goods lead to?

A

The free rider problem.

34
Q

What does the free rider problem mean?

A

Once a public good is provided its impossible to stop someone from benefitting from it, even if they haven’t paid towards it.
eg, ‘ A firm providing street cleaning cannot stop a free rider, who has refused to pay for street cleaning , benefitting from a clean street’.

35
Q

Why cant the price mechanism not work if there’s free riders?

A

Consumers wont choose to pay for a public good that they can get for free because other consumers have paid for it.

36
Q

Why are public goods underprovided by the market?

A
  • If everyone waits to see who will provide and pay for a public good , then they wont be provided.
37
Q

What other problems are there that causes firms to be reluctant to supply public goods

A
  • Ir’s difficult to set a price for public goods.because it’s harder to work out their value to consumers.
    -Producers will tend to overvalue the benefits of a public good in order to increase the price that they charge. Consumers would undervalue their benefits to try and get a lower price.
38
Q

What are externalities an example of?

A

A missing market because no market exists for externalities

39
Q

What parts of the environment have the characteristics of public goods?

A
  • The air = which isn’t sold or bought. It’s non excludable and non rivalrous.
40
Q

Give an example of the tragedy of commons

A
  • both clean and dirty air cost the same so if clean air bcomes scarce because of pollution its prices wont rise and deter people from using it up.
    -The non-excludability of clean air leads to the free rider problem.The benefits of not polluting the air or cleaning the air after, atre not restricted to those who have paid for the clean air by choosing not to pollute it.
  • Therefore it’s unlikely that in the free market anyone will either choose not to pollute .
41
Q

What is the tragedy of the commons?

A

The idea that people acting in their own best interest will overuse a common resource without considering that this will lead to a depletion or degradation of that resource.

42
Q

What is resource depletion?

A

The reduction of available natural resources due to their overuse.

43
Q

What is resource degradation?

A
  • Occurs when natural resources are made less productive by human activity.
44
Q

How does the tragedy of the commons explain environmental market failure ?

A
  • It explains a lot of the cuases of the of environmental market failure
  • Governments will usually have to intervene to prevent the destruction and degradation of common resources.
  • e.g ‘ Through taxation or subsidies, legeslation or government spending’
45
Q

When do externalities exist?

A
  • When there’s a divergence between private and social costs and benefits.
46
Q

What are externalities?

A

The effects that producing or consuming a good/service has on people who aren’t involved in the making,buying/selling and consumption of goods/service.

47
Q

What are positive externalities?

A

The external benefits to a third party

48
Q

What are negative externalities?

A

The external costs to a third party

49
Q

Where can externalities occur?

A
  • In production and consumption.
50
Q

Give an example of a negative externality in production?

A

Producing steel could be pollution that harms the local environments

51
Q

Give an example of negative externality in consumption?

A

Consuming a choclate bar could be the litter dropped on the street

52
Q

Give an example of a posiive externality in consumption?

A

Someone training to be a doctor (the training is being consumed) could be the benefit to society.

53
Q

Give an example of positive externality in production?

A

Producing military equipment could be an improvement in technology that benefits society

54
Q

Explain how market failure can occur because of externalities?

A

In a free market the price mechanism will only taeke into account the private costs and benefits NOT the external costs and benefits

55
Q

What is a private cost?

A

Is the cost of doing something to either a consumer or a firm.
e.g the cost a firm pays to make a good is the private costs and the price a consumer pays to buy the good is their private cost.

56
Q

What is an external cost

A

They are caused by externalities

57
Q

What is the social cost

A

Adding the private cost to the external cost.

58
Q

What is a private benefit

A

The benefit gained by a consumer or a firm by doing something

59
Q

What is the social benefit

A

Private benefit plus exxternal benefit

60
Q

What is the position of social optimum?

A

MSC=MSB

61
Q

Give an example of the negative production externality leading to overproduction?

A

A chemical factory may ignore the externalities it produces such as the releases of harmful waste gases into the atmosphere

62
Q

What does the classifaction of merit and demerit good depends on?

A
  • Involves looking at social and private benefits and costs
  • depends on value of judgement
63
Q

What is a merit good and what is there characteristics?

A

They are goods whose consumption is regarded as being benefical to society.
- They provide benefits to both individuals and society as a whole ( due to positive externalaties as a result of consumption)
-people are unaware of the full benefits that merit goods provide.

64
Q

Name an example of merit gods?

A
  • Health care
  • Education
65
Q

Are merit goods under or over consumed and why?

A

Underconsumed
-In the free market,the positive extrnalities that merit goods provide are ignored, and production and consumption will be below socially optimal level. For example,producers and consumers wont conider the wider benefits to society of a good education, such as having a more productive workforce.

  • Due to imperfect consumption, consumers don’t always realise the full benefits that merit goods provide. For example, pwople might not be aware of how serious their medical conditions are, so demand for health care isn’t high as it should be so health care is underprovided.
66
Q

Are all merit goods welcomed by consumers?

A
  • No. They can be rejected. For example, free vaccinations
67
Q

What are demerit goods and their characteristics?

A
  • Goods whose consumption is regarded as being harmful to the people that consume them
  • People are unaware or don’t care about the harm that de merit goods can cause.
  • Have negative externalities that result from consumption
68
Q

What are examples of a demerit good?

A
  • Cigarettes
  • Heroin
69
Q

Are demerit goods over or underconsumed and why?

A

Overconsumed
- In a free market, the negative externalities that demerit goods cause are ignored, and production and consumption will be above the socially optimal level. For example, producers and consumers wont consider the wider disadvantages to society of ciggarettes such as smoking related health issues putting a strain on health care services

  • Due to imperfect information, consumers do not always realise the harm demerit goods cause. For example, people may have a lack of information on how a harmful drug might affect their health, so their demand for drugs is higher than it should be and drug is overprovided.
70
Q

Why is it hard to classify which goods are merit and which are de merit?

A
  • It’s usually a value of judgement based on peoples opinion.
  • Some may consider contraception as a merit but others do not.
  • Not all goods with positive externalities are a merit good
  • Not all goods with negative externalities are de-merit goods

A level (Economics)- Microeconomics paper one (8 decks)

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