Market Failure Flashcards
Reasons for market failure (3)
Externalities
Public good
Information gaps
What is a social benefit / costs
Private and external benefits / costs
What is market failure (2)
Demand doesn’t equal supply
Marginal social costs don’t equal marginal social benefits
What is an externality
Third party spill over effects from production or consumption
Negative production externality diagram
Shift MSC left
Positive consumption externality
Shift MSB to right
Type of externalities + example (4)
Missing market - national defence
Partial failure - healthcare
Missing market what
Wouldn’t be provided without gov
Partial failure
Some can afford better (private healthcare) and other can’t
What is the social optimal level
Where MSB=MSC
Where society gets max benefit of positive externality whilst covering cost of negative externality
Characteristics of neg externality (4+)
Overproducing
Underpricing
MSC bigger
Deadweight welfare loss
Characteristics of positive externality (3)
Underconsumption
MSB bigger
Potential welfare gain
Why does lack of property rights create externality (2)
Factory won’t be held accountable for waste in nearby river if no one has PR and takes responsibility
Leads to overuse of scarce resources + environmental damage
What is a merit good (4++)
Good that:
Consumption benefits society
People unaware of full benefits = underconsumption + overproduction
MSB greater than MSC
Healthcare + education
Demerit good characteristics (4)
Consumption considered harmful
Unaware or don’t care
Cig and drugs
Over produced + consumed
Why are demerit and merit goods over or under consumed/produced
Information gaps
Use of a subsidy to increase consumption of merit good why + diagram
If left to free market = market equilibrium lower than socially optimal level
Shift MPC=MSC outward to right
Use of tax on demerit good diagram (2)
Shift MPC left but not as far as MSC
Reduces the deadweight welfare loss
What is a public good (2)
Non excludable + non rivalrous
Under provided by free market
What is non excludable + non rivalrous mean
People can’t be stopped from consuming
Someone’s consumption doesn’t affect your own
What’s a quasi pubic good (2)
One or the other - excludable/rivalrous
Roads = tolls (ex) or congestion (rivalrous)
Why - public goods = market failure (3)
Producers overvalue to charger higher price
Consumers under value to get lower price
Firms are reluctant to supply public goods
Types of imperfect info (3)
Moral hazard
Adverse selection
Principal agent problem
What is moral hazard (2)
People take risks because they don’t suffer the consequences
Example = car insurance where provider lacks info in how individual acts
What is adverse selection (4+)
Company sells medical insurance
- premiums to high for people in good health
- good value for those in poor health = need lots of medical treatment which costs firm more money
- selling to unprofitable customers = financial loss
What is PAP(3)
Different interests within firm
Shareholders want to maximise profits
Manager want to maximise bonuses or welfare
Demerit/merit goods and info gaps relation (2+)
Closely linked
Demerit = alcohol which is over consumed because health dangers glossed over in advertising
Example of private + then external costs for same thing (3)
Driving a car:
Cost of petrol + tax + buying car
Greater congestion + slower journey times for other drivers
