chapter 4 Flashcards
Market Failure definition
exists when free market fails to allocate resources in an efficient manner
Sources of Market Failure
- public goods
- externalities
- information failure
- imperfect information
- asymmetric information - market dominance
- factor immobility
Public Goods definition
goods that are not provided by the free market & have the features of :
1. non-rivalry
- the consumption of the g&S by an individual does not depleye the benefits available to others to enjoy
2. non-excludability
- impossible to provide the good to only one person only without it being available for others too
Externalitites definition
occurs when the costs / benefits associated with the production / consumption of a good spillsover onto a 3rd party (anyone besides the seller / consumer), for which no compensation is paid
Types of Externalities
- negative externalities
- from production
- from consumption - positive externalities
- from production
- from consumption
Policies for Negative Externalities
market based solutions
- taxation
- tradable permits
- quotas
non-market based solutions
- legislations / government regulation
- education / campaigns / advertisements
Policies for Positive Externalities
market based solutions
- subsidies
non-market based solutions
- legislations / government regulation
- direct provision
Externalities analysis
before
- free market, MPC = MPB
- externality (MEC/MEB) in context
during
- divergence between MPC & MSC due to presence of MEC/MEB
- free market not at social optimal level
after
- agents are unable to internalise these externalities
- there is overproduction/consumption
- allocative inefficient market = market failure
Imperfect Information definition
consumers are unaware of the actual costs & benefits of consuming the g&s
Policies for Imperfect Information
- public education
- regulation
Asymmetric Information definition
occers when one party in the market has more information about the g&s than the other resulting in a distortion of incentives & inefficient market outcomes
Effects of Assymetric Information
- adverse selection
- moral hazards
Adverse Selection definition
occurs when the asymmetric information between buyers & sellers causes one of the parties to make suboptimal choices that result in lower welfare & thus an inefficient market outcome
Solutions for Adverse Selection
- investing in information
- signals
- screening
- laws
Moral Hazard definition
the situation in which the economic agents take greater risks than they normally would because the resulting costs will not be borne by them, but instead the cost is shifted to the other party
Solutions for Moral hazards
- incentives
- deductibles & co-payment
Policies for Market Dominance
- anti-trust policies
- regulation through taxes
1. lump-sum tax - regulation using pricing policies
1. MC pricing
2. AC pricing - natioanlisation
- liberalisation / deregulation
Factor Immobility definition
the inability of a factor of production to shift from one use / area to another, even in response to a large changes in demand & remuneration
Types of Factor Immobility
- occupational immobility
- geographical immobility
Occupational Immobility definition
occurs when there are barriers to the mobility of the factors of production between different industries & occupations
Solutions for Factor Immobility
- improving information flow
- training / upskilling workers
- improving infrastructure / transport system
- providing incentives
Government Failure definition
occurs when the government intervention leads to greater market inefficiencies
Factors leading to government failure
- imperfect information
- bereaucracy / time lags
- lack of market incentives
- shifts in government policies creating uncertainties in the market
- myopic decision-making
- pursuit of self-interest
