Market failure Flashcards
Market failure
When the price mechanism causes an inefficient allocation of resources leading to net welfare loss
External costs
Negative third-party effects outside of a market transaction
Private cost
Costs internal to market transaction which are therefore taken into account by the price mechanism
Social Cost
The sum of the external costs and private costs from a market transaction
External Benefits
Positive third-party effects outside of a market transaction
Private benefits
Benefits internal to a market transaction, which are therefore taken into account by the price mechanism
Social benefits
The sum of the external benefits and private benefits from a market transaction
Market equillibrium
Where marginal private benefit equals marginal private cost
Social optimum
Where marginal social benefit equals marginal social cost
Impact of external cost on consumers and producers
- Overpoduction
- Underpricing
- Welfare loss
- Concernces about the availabity of the resources for the future
Impact of external benefits
- Underproduction
- Underpricing
- Potential Welfare gain
Public Goods
Those goods that have non-rivalry and non-excludability in their consumption
Private goods
Those goods that have rivalry and excludability in their consumption
Quasi Public Goods
Have either excludability or rivalry
The free rider problem
In a free market economy, public goods are under provided due to the free rider problem. Once a public good has been provided for one individual it is automatically provided for all. Market fails to understand it is not possible to withold the good from consumer who refuse to pay for it
Information gaps
Where consumers, producers or the government have insufficient knowledge to make rational economic decision
Symetric Information
Where consumers and producers have access to the same information about a good or service in the market
Asymetric information
Where consumers and producers have unequal acess to information about a good or service in the market
