chp 10 + 11/Public choice theory

Question 1

what is an externality?

Answer 1

the uncompensated impact of one person’s actions on the well-being of a bystander

there are both negative & positive

Question 2

why are markets not efficient when there are externalities?

Answer 2

the equilibrium fails to maximize the total benefit to society.

Question 3

list examples of negative externalities

Answer 3

• exhaust from cars: creates smog others have to breathe, drivers pollute too much, gov tries to set emission standards for cars and taxes gas
• barking dogs: disturbes neighbors, dog owners don’t have the full cost of noise

Question 4

list examples of positive externalities

Answer 4

• restored historic buildings: people who can enjoy the beauty of them, building owners don’t get full benefit and tend to discard older buildings too quickly
• education: creates more productive working members in society
• reserach into new technologies: creates knowledge that other people can use

in all of these, the decision maker fails to take account of the external effects - the gov responds by trying to influence this behavior to protect interest of bystanders

Question 5

how is the cost to society affected by negative externalities

Answer 5

the cost to society of producing (eg: aluminium) is larger then the cost to the producers

Question 6

what is a social cost?

Answer 6

includes the private costs of the producers plus the cost to the bystanders affected by the externality
curve is above the supply cure - takes into account the external costs - reflects the cost of pollution emitted

the level of production would be where the demand curve meets social cost curve

Question 7

how can the optimal outcome be reached?

Answer 7

tax producers for each ton sold. this would shift the supply curve for aluminium upwards by the size of the tax

this is called internalizing the externality

Question 8

what is internalizing the externality?

Answer 8

alters incentives so that people take account of the external effects of their actions

Question 9

where does the social value lie on a diagram for positive externalities?

Answer 9

social value is greater then private value, so it lies above the demand curve.
optimal quantity = social value curve and supply curve (cost) intersect

Question 10

how can positive externalities be corrected by internalizing the externalities?

Answer 10

to move the market equilibrium closer to social optimum, it requires a subsidy
eg: education is heavily subsidized through public schools and scholarships

Question 11

what is a subsidy

Answer 11

a sum of money granted by the government to assist an industry or business so that the price of a commodity or service may remain low or competitive.

Question 12

what are command-and-control policies

Answer 12

gov can remedy an externality by making certain behaviours forbidden (eg: dumping chemicals in water) however, doesn’t work all the time with things like preventing pollution (gov can’t ban transportation)

Question 13

what can the government use to align private incentives with social efficiency?

Answer 13

market based policies
internalizing the externality by taxing activites that have negative externality, and subsidizing what is positive

Question 14

what is a corrective or pigovian tax?

Answer 14

a tax designed to induce private decision makers to take account of the social costs that arise from a negative externality

an ideal tax would equal the external cost from an activity with negative externalities

Question 15

what is another market-based policy?

Answer 15

tradeable pollution permits - eg: steel mill increases its emissions by 100 tons, paper mill reduces it by 100 if steel mill pays it $5 mill (this is allowed because there isn’t less or more pollution being produced)

Question 16

what is an advantage of a pollution permit?

Answer 16

initial allocation of pollution permits among firms don’t matter from the standpoint of economic efficiency

Question 17

what is a type of private solution to prevent externalities?

Answer 17

moral code/charities/the coase theorem

Question 18

what is the coase theorem

Answer 18

the proposition that if private parties can bargain wihthout cost over the allocation of resources, they can solve the problem of externalities on their own

Question 19

why do private solutions fail sometimes?

Answer 19

transaction costs - the cost that parties incur in the process of agreeing to following through on the bargain

Question 20

What is meant by the statement that “government actions are not costless?”

Answer 20

Government actions are not costless, which means that they have side effects on everything they do, this is market failure. Governments can screw up things terribly, intentionally or unintentionally, just the way things are set up.

Question 21

what are examples of not costless government actions?

Answer 21

There might be market failures, but if the cost of corrective action exceeds the cost of market failure, you shouldn’t correct
Government programs require spending on bureaucrats to run them - not always cheap
Also- the government can get things wrong.
Many cases of the EPA abusing power

Question 22

define “public choice theory”

Answer 22

involves analyzing government decsions making proccess for allocating resources
basic idea: politicians seek to maximize their well being (defined as chances for re-election opposed to promoting best interests of society –> public sector can fail)

Question 23

what is the ‘majority rule’ problem?

Answer 23

when a small majority gaining a small amount can pass laws that can cost a minority large amounts
problem: dollars can measure the intensity, but ‘one person, one vote’ can’t.

Question 24

provide an example of the majority rule problem

Answer 24

any sort of vote on a public project: certain number of taxes to be collected, and those who gain, view the value as being slightly more then the taxes (55%), those who lose don’t have value in the tax at all, which is money wasted. when all the money is added to society, you are worse off.

dollars measure efficiency of markets and value of products

Question 25

what is the ‘special interest group’ effect?

Answer 25

occurs when the government approves programs that benefit only a small group within society, but society as a whole pays the cost

Question 26

how can the special interest group effect lead to undesirable outcomes for a majoirity of people in society?

Answer 26

The major gains are for the beneficiaries, small costs per taxpayer.
Some examples are farm bills, museums, festivals and sports stadiums.

Question 27

What is meant by “Rational voter ignorance?”

Answer 27

Rational voter ignorance is the voters choice to remain uninformed because the marginal cost of obtaining information is greater than the marginal benefit of knowing it. This explains a low voter turnout in an election

Question 28

how does rational voter ignorace explain low voter turnouts?

Answer 28

As an unaware person, to vote in an election may take hours of prior research for a vote that may have an extremely low impact on election results. The numbers don’t add up and have provided a rational reason to not vote. They also are not divisible. There is no system where you can support aspects from multiple parties.

Question 29

Explain what is meant by “bureaucratic inefficiency.”

Answer 29

The bureaucracy is the body of non-elected officials and administrators who operate government agencies. They tend to be inefficient because there is zero motive for profit, and there are also no consequences for poor performance. Budges will typically increase when an agency performs poorly.

Question 30

give examples of bureaucratic inefficiency, and why it occurs

Answer 30

It is difficult to fire people after years of work. There are long approval procedures, unnecessary spending, lack of coordination and the ineffective delivery of public services is caused by the lack of accountability and incentives, and resource limitations. Bureaucratic inefficiency is defined as slow, wasteful, and inefficient.

Question 31

What is the “short-sightedness effect?” Give examples.

Answer 31

Is the fact that the government often will not catch the long term costs of the programs it passes. It implies that short run benefits are more important than long term costs.
examples: budget deficits, and welfare and other government assistance. Eg: benefits at the time of passing a program, but the cost occurs 20 years later, that doesn’t affect the ability to be re-elected into office that many years later, so that long term opportunity cost isn’t relevant.

Question 32

summarize the idea: government failures are costly

Answer 32

Just identifying a market failure is not enough to justify action
The costs of market failure must be overwhelming because of the many ways governments fail
When you treat political figures as reacting to incentives the same way that people react to incentives, there is a more realistic analysis.
Assuming that governments will function efficiently is pointless.

Question 33

what is exludability

Answer 33

the property of a good where a person can be prevented from using it

Question 34

what does rival in consumption mean

Answer 34

the property of a good where one persons use diminished another person’s use

Question 35

what is a private good

Answer 35

both exludable and rival in consumption
eg: ice cream cone

Question 36

what is a public good

Answer 36

neither exludable or rival in consumption (people can’t be prevented from using it)
eg: parks, tornado sirens

Question 37

what is a common resource

Answer 37

rival in consumption, not exludable
eg: fish in the ocean (one person fishes and there are less fish, but it doesn’t stop other people from fishing)

Question 38

what is a club good

Answer 38

excludable, not rival in consumption
eg: fire protection in a small town, cable TV

Question 39

what is a free rider and what is the problem with it

Answer 39

a person who received the benefit of a good but avoids paying for it
eg: 500 residents place $10 value on firework show – cost is $1000 and the value is $5000, the benefit exceeds cost so it is effiecient to have. Say it is private and the owner can’t sell tickets because consumers find out you can see the show without needing to pay because they are not exludable

gov can raise tax and put the revenue to the show

Question 40

list 3 important public goods

Answer 40

national defense
basic research
fighting poverty

Question 41

what is cost-benefit analysis

Answer 41

a study that compares the costs and benefits to society of providing a public good

Question 42

what is ‘tragedy of the commons’

Answer 42

a simple way to demonstrate why common resources are used more than is desirable from the standpoint of society as a whole