market failure Flashcards
definition of MF
it occurs when the price mechanism, operating in the absence of govt. intervention, fails to utilise SCARCE resources to achieve EFFICIENT outcomes
positive externalities definition
PE are spill over benefits to third parties who are not directly involved in the production/consumption of the good, and no payment of the benefit is made.
negative externalities defintion
NE are spill over costs to third parties who are not directly involved in the production/consumption of a good, and make no compensation is made.
merit/demerit good imperfect information definition
individuals/firms lack information that is required for them to make economic decisions . in perfectly competitive markets, consumers and firms have perfect information but in the real world, there is imperfect information that causes a great deal of IGNORANCE and UNCERTAINTY. -> C/P may be unaware of the REAL benefits/costs of consuming/producing a good and thus do not consume at the socially optimal level.
what is the 3 step contextual analysis for pos/neg externalities?
- Identify perpetrator (consuming/producing the good) and their MPC + MPB -> will weight both
- Identify THIRD PARTY and their MEB/MEC
- Identify the TRUE benefit/cost of resources to society (MSB=MPB+MEB / MSC=MPC+MEC)
what is the 3 step contextual analysis for imperfect information?
- Identify MPB/C(PERCEIVED) benefit/cost
- Identify ADDITIONAL benefit/cost
- Identify MPB/C(ACTUAL) = 1. + 2. (actual b/c is HIGHER)
under/overconsumption or production due to underestimation of benefit/cost
what is the 5 step GA for externalities?
- Identify divergence due to MEB/MEC
- Identify current market equilibrium where MPC=MPB bc consumer/producer welfare is maximised
- Identify socially optimal level of output at Q2 where MSB=MSC and society’s welfare maximised and allocative efficiency is achieved
- Under/over consumption/production of Q2Q1 since (Q2<Q1/Q2>Q1)
- DWL of shaded area A, since every additional unit of output from Q1 to Q2 adds more to society’s benefit than cost OR output from Q2 to Q1 adds more to society’s cost than benefit
- societal welfare not max, AE not achieved, govt. intervention
what is the 5 step GA for imperfect information?
- Identify actual vs perceived benefit/cost
- Identify current market equilibrium where C/P perceives that their welfare is maximised
- Identify true level of output where their OWN welfare is maximised where MPC=MPBactual or MPB=MPCactual
- Under/over consumption/production since Q2>/<Q1
- DWL of shaded area A, as every additional unit of output from Q1 to Q2 adds more to C/P benefit than cost OR Q2 to Q1 adds more to C/P cost than benefit
- C/P welfare not max, AE not achieved, govt. intervention
What is a public good?
goods that are NON-RIVALROUS and NON-EXCLUDABLE in consumption, resulting in a MISSING market that will result in complete market failure -> this causes the govt. to have to fully provide the good leading to collective supply of public good which leads to non-rejectability
what does non-rivalrous mean?
it is when the addition of one more user to the good DOES NOT DIMINISH the satisfaction of other users of the good
what does non-excludable mean?
it is when it is impossible or prohibitively costly to exclude NON-payers from consuming the good once it has been produced
what does non-rejectable mean?
once a public good is provided by the govt, consumers cannot reject as they will have to pay for it indirectly via their taxes
subsidy GA
As seen in Figure 3 above, a subsidy on each unit of production has the same effect as to decrease in the costs of producing higher education or the price to be paid for the higher education. If the subsidy accurately reflects the MEB, firms in effect will now be able to produce the same amount at a lower cost. Transferring these cost savings to consumers in the form of lower prices, this would lower the consumer’s MPC to MPC1 (or MPC+subsidy).
education GA
With information provided about the long-term benefits of higher education, consumers who are more well-informed will decide to consume up to the point at MPBperceived with info = MPCactual, maximising their net private benefit at output Q2, which is an increase from the previously under-consumed Q1.
