5 The market mechanism, market failure and government intervention in markets Flashcards
signalling function of prices definition
prices provide information to buyers and sellers
incentive function of prices
prices create incentives for people to alter their economic behavior
e.g higher prices incentives firms to supply more
rationing function of prices definition
rising prices ration demand for product
price rises, to meet excess demand and shortage supply at equilibrium
allocative function of prices
changing relative prices allocate scarce resources away from markets exhibiting excess supply and into markets in which there is excess demand
market failure definition
when the market mechanism leads to a misallocation of resources in the economy, either completely failing to provide a good or service or providing the wrong quantity
missing market definition
a situation in which there is no market because the functions of prices have broken down
private good definition
a good, such as an orange, that is excludable and rival
public good definition
a good, such as a radio programme, that is non-excludable and non-rival
quasi-public good definition
a good which is not fully non-rival and/or where it is possible to exclude people from consuming the product
externality definition
public good/bad that causes either a positive or a negative effect on third parties outside of the market
positive externality definition
occurs when the consumption or production of a good causes a benefit to a third party
- social benefits > private benefit
negative externality definition
occurs when the consumption or production of a good causes a cost to a third party
- social cost > private cost
production externality definition
an externaility (which may be positive or negative) generated in the course of producing a good or service
consumption exernality definition
an externaility (which may be positive or negative) generated in the course of consuming a good or service
social benefit definition
the total benefit of an activity, including the external benefit as well as the private benefit.
what is the social benefit equation
private benefit + external benefit
merit good definition
a good, such as healthcare, for which the social benefits of consumption exceed the private benefits
How can it be decided whether a good is a merit good or a demerit good or not at all
through valued judgment
subsidy definition
a payment made by the government or other authority, usually to producers.
- for each unit of the subsidised good produced the consumers will also be subsidised
demerit good definition
a good for which the social costs of consumption exceed the private costs
social cost definition
the total cost of an activity, including the external cost as well as the private cost
what is the equation for social cost
social cost = private cost + external cost
immobility of labour definition
the inability of labour to move from one job to another,
either for;
- occupational reasons
- geographical reasons
geographical immobility of labour definition
occurs when workers find it difficult/impossible to move to jobs in other parts of the country or in other countries
occupational immobility of labour definition
occurs when workers when workers find it difficult or impossible to move between jobs because they lack or cannot develop the skills needed for the new jobs
equity definition
fairness or justness
inequity definition
unfairness or unjustness
distribution of income and wealth definition
the way in which income and wealth are divided within the population
regulation definition
involves the imposition of rules, controls and constraints, which restrict freedom and economic action in the market place
tax definition
a compulsory levy imposed by the government to pay for its activities,
used for other reasons too;
- reduce consumption of demerit goods
price ceiling definition
a price above which it is illegal to trade.
- can distort markets by creating excess demand
price floor definition
a price below which it is illegal to trade.
- can distort by creating excess supply
government failure definition
occurs when government intervention reduces economic welfare, leading to an allocation of resources that is worse than the free-market outcome
what are the 4 functions of prices
- signalling
- incentive
- rationing
- allocative
when do markets perform well
when all the 4 functions of prices perform well
when does market failure occur
when 1 of the 4 functions of prices break down
2 examples of a public good
- light house light
- national defence
example of a private good
chocolate, once eaten no one else can consume
example of quasi-public good
roads
- open to all, but can be restricted
