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Economics > 8. Market failure > Flashcards

8. Market failure Flashcards

1
Q

market failure

A

suboptimal allocation of resources, when CS isn’t maximized, when provision is greater or less than social optimum

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2
Q

externality

A

when the consumption or production of goods and services imposes costs or benefits on third parties (INDIRECT)

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3
Q

negative externality

A

when production or consumption leads to a cost (harmful)

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4
Q

positive externality

A

when the produciton or consumption leads to a benefit ( beneficial)

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5
Q

demand curve is now

A

benefit

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6
Q

supply curve is now

A

cost

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7
Q

MSC

A

cost society pays when producing one further quantity of a good, MPC+MEC

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8
Q

MPC

A

cost a firm pays when producing one further quantity of a good

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9
Q

when is MSC=MPC

A

no externality in the production process, MEC=0

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10
Q

MSB

A

demand curve, MPB + MEB

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11
Q

MPC

A

represent people selling the good (supply)

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12
Q

MPB

A

represent people who are buying the good (demand)

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13
Q

when is MSB=MPB

A

no externality in the consumption process, MEB=0

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14
Q

when is MSC=MSB

A

market is working at a social optimum, resources used as efficiently as possible

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15
Q

positive externality of consumption

A

a third party benefits from the consumption of a good, MSB>MPB

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16
Q

vaccine example for PEC

A

less risk of contracting a disease, better health closer to herd immunity

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17
Q

Q* on a graph

A

social optimum

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18
Q

potential welfare gain

A

getting PC or CS back by eliminating/reducing externality, distance between Q^x and Q*

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19
Q

welfare loss

A

“loss of consumer / producer surplus when less/more than the socially optimal output is produced / consumed (externality)
“

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20
Q

merit good

A

beneficial to consumers but are underconsumed because potential benefits are ignored or underestimates, usually brings great social benefits

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21
Q

merit good example of university education

A

a more educated population –> important technological innovations and productive society

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22
Q

merit good example of public sports facilities

A

better health, good hobby–> fitter population–> more productive society + live longer

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23
Q

how can the govy increase welfare related to PECs and underconsumptions of MerGs?

A

LIS

  1. Legislation: pass law to make consumption mandatory
  2. Improve information about benefit of product through increasing public awareness 3. Subsidy or direct provision by the gov
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24
Q

subsidy to “solve” PECs and increase welfare

A

shift MSC downwards the size of the externality –> new social level of consumption to be reached at Q^1

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25
Q

increasing public awareness to “solve” PECs and increase welfare

A

shift MPB to the right towards MSB –> increase welfare

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26
Q

problem with using subsidies to promote PECs

A
  1. creates opportunity cost - govs have limited resources and have to reallocate budget
  2. different political parties might prioritize differently
  3. takes long time to make and change a gov policy
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27
Q

problem with using public awareness campaigns to promote PECs

A

high cost to provide positive advertising, long time to take effect = minimal short term Bs

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28
Q

problem with government legislation to promote PECs

A

people could percieve as infringement of civil liberties and autonomy

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29
Q

positive externality of production

A

production of a good creates externals benefits favorable for third parties

when MPC > MSC

between Q* and Q^1 there is potential welfare gain

eg. a firm provides high quality training, people leave to other firms which now dont have to pay for extra training

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30
Q

how can the govy increase welfare related to PEPs

A
  1. subsidy 2. direct provision
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31
Q

subsidy to “solve” PEPs and increase welfare

A

MPC shift downwards by the subsidy to reach MPC = MSC and social optimum A (Q*)

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32
Q

direct provision to “solve” PEPs and increase welfare

A

provide vocational training although high costs and dissuade firms from offering training

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33
Q

negative externality of consumption

A

when MSB < MPB

private utility is diminshed by negative utility suffered by third parties

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34
Q

smoking as a NEC

A

eg. cigarettes –> second hand smoking + cancer, asthma

people will maximize private utility + ignore negative externality = consume where MSC=MPB

–> overconsumption at Q1,P1

there is welfare loss in society too many resources are allocated and overproduced

need to reach optimal at Q*

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35
Q

demerit good

A

goods that are harmful to consumers but people who consume are

  1. unaware or
  2. ignore possible risks - imperfect information about MSC

demand is higher than society’s socially optimum

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36
Q

demerit good example of alcohol

A

creates health consequences eg. hangovers, liver disease -

-> binge drinking can exacerbate aggresive behavior, drunk driving, domestic violence and increase medical costs

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37
Q

demerit good example of unhealthy food

A

leads to high blood pressure etc. + increase medical costs

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38
Q

how can the govy reduce welfare loss related to NECs and overconsumptions of DemGs?

A
  1. indirect tax
    2. legislation/regulation:
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39
Q

indirect tax to “solve” NECs and reduce welfare loss

A

shift MSC upward to MSC + tax

reduce consumption to social optimum at Q*

but P to consumers is P2–> gov will gain revenue which can be used to correct NEs

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40
Q

legislation/regulation to “solve” NECs and reduce welfare loss

A

shift MPB leftward closer to MSB

eg. age restrictions, bans in public places, negative advertising

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41
Q

problem with pigouvian tax

A
  1. some demerit goods might have inelastic demand so taxes might not reduce Qd that much - gov R may be raised but Qd doesn’t fall to Q*
    2. people might look for other supply sources where the good is cheaper - thus consumption isn’t reduced and gov doesn’t gain R
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42
Q

pigouvian tax

A

indirect tax imposed on a market with a negative externality

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43
Q

problem with legislation/regulation

A
  1. argue that it takes away rights of customers to choose
  2. creates negative effect on producers - less R –> potential lobbying
  3. difficult to enforce, need to allocate resources to ensure stakeholders comply
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44
Q

education/awareness campaigns to “solve” NECs and reduce welfare loss

A

govs can increase info evailable through education (long term) or funding public awareness campaigns –> shifting MPB to the left

45
Q

problem with education/awareness to “solve” NECs and reduce welfare loss

A

some people dont care - irrational behavior

46
Q

consumer nudges to “solve” NECs and reduce welfare loss

A

encourage people to reduce consumption voluntarily eg. putting graphic images and using plain colors on cigs –> nudge not to smoke

47
Q

negative externality of production

A

production of a good creates external costs damaging to third parties - often are environmental issues related to sustainability

when MSC>MPC

firm only cares abt PCs and produces at Q1 not Q*

–> misallocation of resources +welfare loss because of extra units from Q1 and Q* making MSC > MSB

48
Q

why might NEPs occur

A
  1. profit maximization: only take account of PCs and not SCs now and in the future - sustainability
49
Q

CARs common access resources

A

natural resources that are difficult to exclude people from using them eg. forests, fishing grounds, pastures

50
Q

characteristics of CARs

A

non excludable + rivalrous = without management –> inevitable overconsumption, degradation and depletion = not sustainable

51
Q

non excludable

A

no one can be excluded from using them either physically impossible or PC > SB

52
Q

imperfect information

A

where buyers and/or sellers do not have all of the necessary information to make an informed decision about the price or quality of a product

53
Q

asymmetric information

A

when one party in a transaction is in possession of more information than the other

54
Q

public good

A

would not be provided at all in a free market because theyre non excludable and non rivalrous

anyone can use them dont need to pay, no decreased supply

55
Q

why arent public goods provided in free market

A

difficulty or expensive to charge people for their use eg. public park, street lights

56
Q

non rivalrous

A

one person consuming doesn’t exclude someone from doing so

57
Q

problem with non excludable goods

A

free rider problem:someone who wants others to pay for a public good but plans to use the good themselves

if many people act as free riders, the public good may never be provided

58
Q

best way to pay for public goods

A

find a way of ensuring that everyone will make a contribution, thus preventing free riders eg. taxes

58
Q

problem with non rivalrous goods

A

PB small compared to PC but SB > SC

59
Q

productive efficiency

A

production is at lowest possible average cost, no waste in production

60
Q

social efficiency

A

taking into account all EC+Bs as well as PC+Bs
social welfare is maximized when MSB=MSC

61
Q

allocative efficiency

A

supply = demand, cost = benefit

limited resources are allocated to produce according to consumer reference reflected in the market

62
Q

tradable permits

A

give the holder the right to pollute a certain amount, to buy permits if emissions increase, and to sell permits if emissions decrease

63
Q

undersupply of MerGs as MF

A

when there is divergence between MPB AND MSB

consumption of MerGs creates PECs that society benefits from that the individual does not

MPB is lower and less than MSB because people are unaware of the higher social benefit –>

underconsumption creates potential welfare gain triangle

NEED to shift MPC/Supply to the right

64
Q

oversupply of DemGs

A

when there is divergence between MPB and MSB

consumption of DemGs creates NECs because MPB is more and higher than MSB

people don’t realize the effects on third parties creating welfare loss

need to eliminate externality/welfare loss, shift MPB leftward

65
Q

how can the govy increase consumption of MerGs?

A
  1. provide them directly-gov provision

2. subsidy

66
Q

how can the govy decrease consumption of DemGs? reduce supply/demand

A

REMT
1. make illegal (but can create black market)

  1. tax (depending on elasticity)
  2. regulate
  3. education campaigns
67
Q

deadweight loss

A

The loss of the trades not made due to government intervention. (taxes)

68
Q

Allocative Efficiency Loss

A

When inefficient trades are made due to government intervention (subsidy)

69
Q

Types of Market Failure

A

LEIOU
Lack of Public Goods
Existence of externalities
Imperfect Competition - Short Termism - Inequality Over-supply of demerit goods Under-supply of merit goods

70
Q

other causes of market failure

A

3Is

  1. Immobility of production factors
  2. problems of Information
  3. Inequality
71
Q

immobility of PFs as MF

A

resources are assumed to be reallocated based on higher profit incentives but this isn’t always the case

problems may be geographcial or occupational (lack of skills)

72
Q

info problems as MF

A

When buyers and sellers don’t have all the correct information they may buy or sell a product at a higher or lower price than what would be reflective of its true benefit or cost

73
Q

short termism as MF

A

decisions are made that have severe future implications such as unsustainable resource use

74
Q

inequality as MF

A

income equalities makes it so only the products that create profits are supplied which can exclude people from a market because they cannot afford it

–> unequal allocation of resources

75
Q

inequality as MF

A

income equalities makes it so only the products that create profits are supplied which can exclude people from a market because they cannot afford it
–> unequal allocation of resources

76
Q

sustainability

A

use of resources that satisfies present needs without comprimising future generations especially non renewable resources

77
Q

lack of public goods as market failure

A
  • create market failures if a section of the population that consumes the goods fails to pay but continues using the good as actual payers
  • its charact. makes it impossible to collect (enough) revenue to pay for private costs –> no incentive to provide
78
Q

why CARs is a market failure/tragedy of the commons

A

non excludable but rivalrous –> becomes exploited + overconsumed because producers are acting rationally - maximize self interest => externalities

79
Q

importance of international cooperation for sustainability

A

threats to sustainability are global (interdependence between ecosystems and countries)-

CARs are degraded everywhere which requires cooperation

LEDCs need to be supported through financial-tech support, some countries value economic growth unaware of long term effects

80
Q

overfishing as an example of TOFTC

A

lake = CAR - non excludable + difficult to restrict access (size, location, cost)

–> ppl fish without paying license/fee – little incentive to limit consumption

–> maximize self interest and fish faster than fish can reproduce

81
Q

atmosphere as a CAR

A

degradation - what is put into CARs eg. waste, pollution

82
Q

how can international agreemenets reduce NEPs

A

economic activity = human impact -> need global agreements to protect

–> threats to world’s CARs because the earth only has limited stock

to comply to agreements countries need to work tgt to meet targets

83
Q

how can tradable permits reduce NEPs

A

if countries don’t use up their permit - allowed to sell to countries over target = market for emissions

–> incentivize producers to use cleaner tech so they dont buy carbon credits

84
Q

how can carbon taxes reduce NEPs

A

internalize NEPs through polluter paying

–> producer can choose whether to reduce emissions or pollute and pay, start lower so producers can change production/consumption patterns.

Tax –> COPs rise from MPC to MPC + carbon tax –>

p1- p2 –>consumption fall to Q2 moving closer to Q* (smaller WL)

85
Q

how can legislations and regulations reduce NEPs

A
  • to meet standards firms have to increase PCs = MPC + increased costs
  • incentivize producers to find alternative production methods
86
Q

command and control

A

strictly regulate producer behavior through legislations to ban or reduce ouput

87
Q

concerns abt command and control

A
  1. so much info to process - impossible to gather
  2. need to consider unique differences of industries and ecosystems - could lead to over or underregulation
  3. raise product Ps –> less competitive in foreign market
  4. have to be closely monitored - compliance is expensive and time consuming
  5. environmental R concerning new tech discourage development
  6. govs are slow and resistant to change
  7. lobbying from stakeholders –> regulatory capture
88
Q

how can subsidies reduce NEPs

A

through subsidizing alternative energy sources to make them more accessible and reduce COPs –> to meet increasing energy demand

89
Q

subsidy

A

direct payment by the government to a firm per unit of output

90
Q

tax

A

an additional charge on production or consumption in addition to the selling price, money to be used by the government for public infrastructure or goods

91
Q

how can collective self governance help manage CARs

A

individuals and communities work tgt to develop rules/institutions to manage their shared R use

92
Q

how can the govy reduce MF to increase supply of PubGs

A
  1. direct provision

2. public-private partnership - gov provide financing - private producer run it

93
Q

why is asymmetric information a MF

A

there is allocative efficiency if people are aware of product availability and price ranges - they cant make informed decisions with imperfect info- AS and MH

94
Q

adverse selection (AS)

A

when one party in an economic transaction has better info than the other

95
Q

moral hazard (MH)

A

when ppl have incentive to change behavior and take more risk when they know others will absorb the risk

96
Q

solutions to “solve” adverse selection

A

screening - when less informed party gets other party to reveal info

97
Q

example of screening (market for lemons)

A

used car market: people cant tell between good car and lemon

– average P is charged so good car consumers make a loss –>

no market for a good car (MF) = bad drives out good

98
Q

community surplus

A

the sum of consumer and producer surplus at a given price and quantity in a market - maximized at equilibrium - price = marginal cost

99
Q

consumer surplus

A

when the price that consumers pay for a product or service is less than the price they’re willing to pay - additional benefit

100
Q

producer surplus

A

difference between the amount producers get for selling a good and the amount they want to accept for that good -

excess benefit from selling at a price higher

101
Q

list gov solutions to reduce MF

A

Provision Education Tax Regulate Ban Subsidy PETR BS

102
Q

list gov solutions to reduce S/D for DemGs

A

make illegal, tax, regulation, education

103
Q

existence of externalities as a MF

A

external costs and benefits of production/consumption of a good is not represented in its price

  • damage not internalized because self interest wants to be maximized
104
Q

subsidy as a solution for PEPs

A

increase positive externality (shift MPC to the right) - MPC + Subsidy = MSC - potential welfare gain

105
Q

providing benefits as a solution for PEPs

A

reduce costs of production and encourage supply (usually for merit goods) eg. employee training

106
Q

problem with firm subsidies (PEPs)

A
  1. difficult to estimate level of subsidy

2. opportunity cost of subsidy

107
Q

problem with benefits (PEPs)

A
  1. cost to provide freely or low price is high

2. government trainers dont work for the firm so might not have their best interest

108
Q

free rider problem

A

where individuals are able to consume a good without paying.

This creates a situation where there is little incentive to pay for the good – instead, we hope that others pay for it and we can get the good and save our money

–> this is why its underprovided and consumed

Economics (8 decks)

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