Chapter 5 Flashcards
What is welfare economics
Assesses how well the economy allocates its scarce resources in accordance with the goals of efficiency and equity
Efficiency addresses
the question of how well the economy’s resources are used and
allocated.
Equity deals with
deals with how society’s goods and rewards are, and should be, distributed
among its different members, and how the associated costs should be apportioned.
Give an example of efficiency and equity on tesla cars buyers
deals with how society’s goods and rewards are, and should be, distributed
among its different members, and how the associated costs should be apportioned.
What is reservation price
A reservation (or reserve) price is a limit on the price of a good or a service. On the demand side, it is the highest price that a buyer is willing to pay; on the supply side, it is the lowest price at which a seller is willing to sell a good or service.
What is consumer surplus
the excess of consumer willingness to pay over the market
price.
What is supplier or producer surplus
excess of market price over the reservation price
of the supplier.
What is intergenerational equity
Deals with whether the policies we adopt today are “fair” for the next generation
Example: If we emit an excess of greenhouse gases today, will the next generation have to pay for the current generation’s excess?
Valuation is
The price that the consumer will give for some good
Formula for price surplus
Price -C (willingness to accept reservation price)
suppliers and demanders are willing to participate in the market because
They earn surplus
How to find a consumer and producer surplus using the graph
CS- the area of the triangle below D curve above the price
PS- area of the triangle above the S curve below the price
Total surplus is
The sum of producer and consumer surpluses
What is an efficient market
An efficient market maximizes the sum of producer and consumer surpluses.
What is marginal cost and marginal benefit and their relationship
The free market equilibrium may be efficient
At that equilibrium, the marginal benefit (on the D side) from consuming one more unit equals the marginal cost (on the S side) from producing one more unit provided the demand curve measures benefits correctly and the supply curve measures costs correctly
The change if the supply curve if the tax is percentage and if fixed cost per unit
Fixed cost: parallel shift
Percentage: the incline changes
What is tax wedge
the difference between the consumer and producer prices.
the price the consumer must pay and the
price that the supplier receives.
What is the revenue burden
the amount of tax revenue raised by a tax.
How to find government tax revenue from the graph
Rectangular
PtEtPtsA
where a is the projection of Et on the old supply curve
The area on the graph for reduction of consumer and supplier surpluses
supplier surplus is reduced by the amount P0E0APts
reduce consumer surplus by
PtEtE0P0.
What is the rectangular appendesis left on the left of demand and supply curve if we subtract government tax
The excess burden, or deadweight loss, of a tax is the component of consumer and
producer surpluses forming a net loss to the whole economy. (DWL)
What is the distortion
A distortion in resource allocation means that production is not at an efficient output
Influence of supply and demand curve elasticities on tax revenue and excess burden
Supply inelastic-> government will receive a lot of money
But if elastic, the government will have less money and
If the demand curve is elastic, government will receive less tax
What is an externality and give examples of both negative and positive
Externality- a benefit or cost falling on people other than those involved in the
activity’s market. It can create a difference between private costs or values and social
costs or values.
Negative: pollution. electricity-generating plants
that use coal reduce air quality, which, in turn, adversely impacts individuals who suffer from
asthma or other lung ailments.
Positive: Externalities of the positive kind enable individuals or producers to get a type of ‘free ride’ on
the efforts of others.
When a large segment of the population is
inoculated against disease, the remaining individuals benefit on account of the reduced probability
of transmission.
A less well recognized example is the benefit derived bymany producers world-wide from research
and development (R&D) undertaken in advanced economies and in universities and research institutes.
The result is that society at large, including the corporate sector, gain from this enhanced
understanding of science, the environment, or social behaviours.
difference between social and private optimum supply curves
Graphically the full or total supply costs are reflected in St, lying above S, which reflects only private costs
The social optimum differs from the private optimum because it reflects all of the costs of production (denote it by Q*)
The firm is thus over-producing from a social point of view
Q* is to the left of Q 0
A solution to negative externalities
A corrective tax that increases the price and reduces the output
Production quotas
solution to positive externalities
Furthermore, firms that invest
heavily in research and development would not undertake such investment if competitors could
have a complete free ride and appropriate the fruits. This is why patent laws exist
An income tax credit to buyers: the vaccine is free to take
Subsidies
What subsidy dies to the supply and demand curves
Subsidy will shift the supply downward
Besides externalities, there are many other cases of market failure, which mean that the equilibrium quantity generated by the market is not efficient
Examples
Monopolies
Public goods
International externalities
Insufficient information concerning the product
What are green house gases
Greenhouse gases that accumulate excessively in the earth’s atmosphere prevent heat
from escaping and lead to global warming
Why monopoly is not efficient
Dead weight is big, society cannot get the full quantity benefit
There are 2 types of public goods
Exclusion
Rivality ( some person will get, but then others will not ,competition exists)
Different combinations of exclusion and rivality and what would that mean
Exclusion and rivality ->private good (cell phone)
Exclusion (yes) and rivality (no)->club good (netflix subscription or lecture)
Rivality(yes) and exclusion(no)-> common resources (public parking, public health)
No exclusion and no rivality-> public good (military defense)
In what units GHGs are measured
parts per million
3 ways how polluters can be controlled
- Direct controls
- Corrective taxes(a carbon tax)- market based
- Tradable permits to pollute- market based
What is the marginal abatement curve
the cost to society of reducing the quantity
of pollution by one unit. Has the negative slope
An optimal quantity of pollution occurs when
the marginal cost of abatement equals the marginal
damage.
What should be done to reduce GHGs with many polluters in the sector
With many polluters, the least cost policy to society requires producers with the lowest abatement
costs to act first.
International negative externality
GHGs
What is tradable permits
A system of tradable permits is frequently called a ‘cap and trade’ system, because it limits or caps
the total permissible emissions, while at the same time allows a market to develop in permits.
Imagine that each firm is emitting 60 units of GHG, but they have permits to emit only 50
units each. And furthermore suppose it costs B $20 to reduce GHGs by one unit, whereas it costs
A $30 to do this. In this situation A could pay B $25 for several permits and this would benefit
both firms.
What is the appropriate value of the tax on pollution>
the value that results in the quantity Q*
Corrective taxes are also called
Pigovian taxes
