Market Failure Flashcards
Market failure
When a market leads to a misallocation of resources
Complete market failure
When there is a missing market
- This is the case for public goods
Partial market failure
When the market exists but doesn’t provide resources in optimum quantities so theres a misallocation of resources
- there is either over production/comsumption or under production/consumption
Public goods
Non excludable: non paying customers cannot be excluded from benefiting
Non rival: one persons enjoyment does not diminish another persons
Examples of public goods
- street lights
- flood defences
- police
- parks
Private goods
Opposite of public goods, they are excludable and rival.
Non payers an be excluded from consuming a good and the consumption of that good diminishes the enjoyment for others
Quasi public good
Private goods that posses some characteristics of a public good. They may be partially excludable or rival
EG: WiFi, roads
How can public goods lead to market failure
Because the market fails to provide them efficiently due to free rider problem and missing markets which will require govt intervention and lead to inefficiencies
Free rider problem
When customers realise they can access the good without paying for it. So they are ‘free-riding’ on the backs of other customers paying
EG: In the case of flood protection, coastal homeowners would have an incentive to wait for their neighbours to fund the flood protection.
Overtime, customers paying will stop and these goods will become under provided in society resulting in a missing market and complete market failure
How can govt stop the free rider problem
Govt intervention - direct & indirect taxed for tax revenue to provide public goods - this is know as STATE PROVISION
What are ‘the commons’
Natural resources
The tragedy of commons
When in a free market individuals that have access to natural public goods act in self-interest over wellbeing of society
- individuals could exploit shared resources till there’s excess demand resulting in overconsumption or depletion making the commons a rivalrous good
EG: overfishing can deplete the population of fishes
How can govt intervene over the tragedy of the commons
property rigths
Positive externalities
positive effects on third parties outside the price mechanisms (outside transaction)
Positive externalities in production
Actions of forms have wider benefits to society.
The market is failing due to under production of these goods and services as the private costs of the firm are greater than the social costs
Positive externalities in consumption
The actions of individual consumers have a wider benefit to society.
When private benefit
Private costs
the costs of a producer involved in the price mechanisms
Social benefit
The total of private benefit and external benefit
Why is there an under consumption of goods in positive consumption externalities
- The social benefit is greater than the private benefit so consumers consume less than the social optimal level.
- Consumers may be unaware of the full benefits of the consumption leads to lower demand (vaccines,education)
On a positive consumption diagram where is allocative efficiency
At optimal level, where MSB=MSC
On an externalities diagram what is the supply and demand curve equals to
Supply = MC
Demand = MB
Merit good
products that are beneficial to society but not enough provided in free market
Demerit goods
products which have harmful impacts on consumers
Why are merit goods under consumed and under provided
Consumers don’t full know the the private or external benefits and under provided because they are a cause of partial market failure
Why are demerit goods over consumers and over provided
They are considered desirable to society and consumers don’t consider all the consequences when consuming (imerfect info) - over provided cause they are usually addictive
Imperfect info
When consumers or producers lack the info lack info needed to make an informed decision
Incomplete info
when someone doesn’t know the full costs or benefits of good
How does incomplete info link to underconsumption of merit goods
Incomplete info leads to consumers nit being informed of the full benefits of the merit good they miss out so they under consume leading to a misallocation of resources
How might govt intervention help underconsumption die to incomplete info
- regulations
- providing info (anti smoking adverts)
- taxes ( ad volerem taxes)
Asymmetric info
When one party knows more than another party in a transaction
How does asymmetric info lead to market failure
One party in the transaction has more info than the other which can cause misalloation of resources as consumers may be unaware of the defects of the product.
How did the govt intervene in asymmetric info of second hand goods
The Consumer Rights Acts 2015 stated that is a buyer finds a major fault six months after buying it, the seller is requires to offer a full refund, replacement or repair, fixing the market failure.
How is there asymmetric info in private healthcare
Private doctors know much more than their patients, so they convince them to pay huge amounts for unnecessary treatments resulting in a misallocation of resources.
How does monopoly power lead to market failure
Markets aren’t allocatively efficient which leads to a misallocation os scarce resources resulting in market failure
How can factor immobility lead to market failure
If there are difficulties reallocating FoP, so resources can’t move easily between different locations leading to market failure causing inefficient resource allocation
Why do govt intervene
- to correct market failure
- support firms
- collect tax revenue
- redistribute income & wealth
- achieve macroeconomic objectives
Govt interventions
- indirect taxes
- subsidies
- price controls
- state provisions
- regulation
- property rights
- pollution permits
How do indirect taxes correct market failure
Levied on producers increasing CoP for firms then transferred to consumers via higher prices. Higher prices reduce the QD and discourage the consumption of specific goods or services (demerit goods)
How subsides correct meet failure
Reduces the cost of production and encourages an increase in output of good. Producers keep subsidy and give consumers lower prices to encourage consumption
Example of max price in Uk
Energy price cap in April 2024
Example of min price
Scotland have a min price per unit of alcohol
Max price
sellers cannot legally sell the good/service at higher price, it is set below equilibrium market price and is used to help consumers if price is too high (rent controls)
What is the aim of max prices
to promote equity in the market for essential goods and services and to solve market failure caused by income ineqaulity
What might max prices be bad
- producers lose out on price; their producer surplus falls
- unmet demand might lead to unintended consequences
Min price
Sent above free market equilibrium price and sellers legally can’t sell below.
Used to decrease consumption of a demerit good - they are also sued in labour markets (NMW)
