LS17-19 - Market Failure and Externalities, Public Goods, Information Gaps Flashcards
What is external cost?
External cost is the cost to a third party that I snot involved in the making, buying/selling and consumption of a specific good/service
What is external benefit?
External benefit is the benefit to a third party that is not involved in the making, buying/selling and consumption of a specific good/service
What are the 3 types of market failure?
Externalities
Public Goods
Information Gaps
What are externalities?
The consumption and production of some goods/services costs or benefits to economic agents that are not involved in the transaction
What are public goods?
Some goods/services would be under-provided if provision was left entirely to the private sector
What are information gaps?
Some markets have informational problems for consumers and/or producers which results in under or over consumption of the products
What is market failure?
Market failure is where too much or too little of a good is produced and/or consumed compared with the socially optimal level of output
When the price mechanism leads to an inefficient allocation of resources
What is a public good?
A public good is that which is non-rivalrous and non-excludable
What is the difference between public and private goods?
Private goods are excludable and rivalrous
What is a merit good?
Merit goods are those goods and services that the government feels that people will under-consume and so to be subsidised or provided free so consumption does not depend primarily on ability to pay
What does non-rivalrous mean?
Non-rival means that consumption of a product does not prevent another person form also consuming that product
What does non-excludable mean?
Non-excludable means that once a good is provided, it is impossible to stop people from using it
What is the free-rider problem?
The free-rider problem is a type of market failure that occurs because everybody is able to benefit of the public goods
Why does the free-rider problem occur?
Free riders are a problem because while not paying for the good, they may continue to consume. The good is then undersupplied or not provided at all
What is the formula for social benefit and cost?
Social Benefits = Private Benefits + External Benefits
Social Costs = Private Costs + External Costs
What is positive/negative externality?
Social benefits/costs do not equal private benefits because external benefits/costs are present
When does the social optimal level of output occurs?
Where all external benefits and external costs are accounted for
What happens in a free market when external benefits/costs are present?
External benefits leads to under-production/consumption in a free market
External costs lead to over-production/consumption in a free market
What is perfect information?
Perfect information is when a buyer or seller has a complete understanding of the quality and nature of a good or service
What is symmetric information?
Symmetric information is when buyers and seekers have equal amounts of knowledge about a good or service
What is imperfect information?
Imperfect information is when a buyer or seller lacks a complete understanding of the quality and nature of a good or service
What is asymmetric information?
Asymmetric information is when a buyer or seller has more information about a good or service than the other party
What is the information gap?
Information gap is when either the buyer or seller does not have access to the information needed for them to make a fully-informed decision
How do we find the marginal social cost/benefit?
Positive/Negative externalities are added to the firms supply/demand curve or the marginal private benefits/cost to find the marginal social benefit/cost curve
Where is the social optimum on the cost-benefit graph?
The social optimum is where marginal social line crosses marginal private line
Here, negative externalities are not eliminated but the market has priced them into the product
Where is the social welfare loss?
The area of the triangle formed between the free market, social optimum, and the point above market equilibrium
Why is there social welfare loss?
The market output supplied is higher than the social optimum position
How do taxes help a negative externality?
Tax on a product results in a fall in supply
This shifts the marginal private line to the social optimum
This partially reduces the social welfare loss
How do subsidies help a positive externality?
A subsidy results in an increase in supply
This shifts the marginal private line to the social optimum
This reduces the social welfare loss
