Exam 3 - Extra Reading Notes Flashcards
monopoly can
have a strong influence over the market and to some
extent control the relationship between itself and its customers.
Monopolies strong influence power
benefit to be gained from
transactions and may also involve a loss to society as a whole.
markets may produce a misallocation of resources without the
imposition of monopoly power.
- this may result from the
existence of an “external cost”, or from an information problem.
An external cost is created whenever
someone is negatively
affected by a transaction with which they have no direct
involvement
- For example = when smog in Washington, D.C. is shown
to be damaging the statue of Abraham Lincoln in his memorial, an
external cost exists
A market is
really a consideration of costs and benefits.
The
demand curve represents
benefits
The supply curve represents
costs
If external costs exist,
then the true cost of a
transaction is not being considered, and the costs being used are
too low
the existence of external costs will lead to
too much of a good being produced, compared to its true cost to
society.
external benefit
Someone outside the
transaction benefits from an action of others.
- For example, the
cleaning up of a polluted river will increase the property value of
land located along the waterway. Because the true benefit of this
type of good is not part of the
An external cost or benefit is sometimes referred to as
an “externality”, indicating that a transaction affects those who are
neither buying nor selling.
- For example, Acid rain is an externality (and also
an external cost) since the acid rain falls many miles from the
place it is produced and not necessarily on the people who bought
the products producing the acid.
When the person creating an externality is figuring
the cost or benefit in his or her decisions, we say that
the
externality has been “internalized”.
- Once this has occurred the
solution will be the one that is best for society, what economists
refer to as “optimal.”
The Coase Theorem
The Coase theorem essentially says that if the costs of
transactions to deal with an externality are zero, the participants
will be able to arrive at an agreement that will deal with the
externality without intervention by government or any outside
party.
The point of the Coase theorem, then, is that
the market can
deal with at least some examples of market failure, if the impacted
persons can determine the correct outcome at zero or low cost.
In reality, it is often the case that the
costs of dealing with an externality are not zero
The Coase
theorem suggests that a possible “solution” is simply to
find a way
to significantly lower the costs of individuals to adapt. If that
can occur, the optimal solution will be created by the persons
involved.
the cause of transaction costs will be
the lack
of information on the part of the participants.
consumers change their consumption habits based on
the acquisition
of information.
- For example, We eat less fat, we drive less polluting cars, we
buy recycled products and so on.
Role of Information
When we learned the true consequences of our actions, our behavior
changed in response.
Typically, economics revolves around .
perfect information assumptions
Perfect competition requires that businesses know
their true costs of production and have perfect knowledge about the
demand conditions.
All of supply and demand requires
perfect information to create the equilibrium solution.
The stock market is a “free”
market only to the extent
that the traders are all on an even
basis.
The securities laws of the United States prohibit
an individual with “inside knowledge, that is, information not
available to all investors, from using that knowledge to make
investment decisions.
Advertising
is the transmission of information to consumers, though that information may not be factual
What is the easiest examples of externalities?
occurs when we
consider the environmental impact of economic activities.
The Optimal Level of Pollution
To some, it would seem that the optimal level of pollution is zero. It should be quickly obvious that this solution is unworkable
The equilibrium point is
the optimal level of pollution. Finding it requires that the true costs of production are passed on to those who benefit from the production.
Actions to Correct Environmental Externalities
Among these are simple market
economics, the legal system, and direct government action of various kinds.
The effectiveness of
such a program depends on
the information of consumers and the
degree of market power possessed by the business involved.
Individuals hurt by an external cost can often
file a law suit for damages.
Government action can appear in many forms.
- Regulations and laws that define “appropriate” behavior
by persons and businesses. - Numerous other laws by the feds, states and local government
affect virtually every aspect of our lives. - government could impose prices on pollution.
- A different proposal is to simply decide how much of a
particular pollutant is “optimal” and give each producer of this
pollutant a certificate allowing them to create a certain quantity
(say, a set number of tons of sulphur dioxide).
If the total of the certificates is less than the total
pollution made prior to their issue,
the externality of the pollution will be internalized and the costs of production for polluting companies will rise relative to cleaner competitors.
