market failure Flashcards
1
Q
what is market failure?
A
when the price mechanism leads to an inefficient allocation of resources and a deadweight loss of economic welfare
2
Q
what are the 3 main types of economies?
A
- free market economy
- command economy
- mixed economy
3
Q
what’s a free market economy?
A
- prices are determined by supply and demand with no government intervention
- no examples
4
Q
what is a command economy?
A
the government makes all the decisions regarding production and distribution of goods and services, controlling resources and setting prices
5
Q
what is a mixed economy?
A
- both private enterprise and government intervention co exist in the production and distribution of goods and services
- used by most economies in the world
6
Q
what is the assumption?
A
- if markets are working freely with no imperfections, this will give the most efficient outcomes because
- firms will be producing at the lowest cost per unit possible (productive efficiency)
- the economies resources will be allocated between firms and industries in the most efficient way (allocative efficiency)
7
Q
- what is a public good
- what do the two characteristics mean?
- give 2 examples of a public good
A
- a good that is non excludable and non rivalry
- non excludable- once provided you can’t stop anyone from benefiting from the good
non rivalry - if somebody benefits from the good it doesn’t reduce the amount available for others
- national flood defence, street lighting
8
Q
- what is the free rider problem?
- give an example
A
- individuals have an incentive to use the good without contributing towards the cost
- people on benefits don’t contribute to national insurance but still use public goods
9
Q
how does the government link to market failure?
A
it is important for the government to step in and correct market failures without, as much as possible, interfering with markets and how they allocate resources
10
Q
what are private goods?
A
a product that must be purchased to be consumed and the consumption by one individual prevents another individual from consuming it
(rivalrous and excludable)
11
Q
- what is a quasi public good?
- give an example
A
- public goods that do not have both characteristics of being non excludable and non rival
- police and fire service, roads
12
Q
- what is a merit good?
- give 2 examples
A
- a good which is under consumed in the free market as individuals do not fully perceive the benefits gained from consumption
- vaccines, education, citizens advice bureaux
13
Q
what are the characteristics of a merit good?
A
- value is underestimated so the good is under consumed
- have a positive externality
- ought to be subsidised or provided at free point of use so that consumption doesn’t depend on the affordability
14
Q
what is a positive externality?
A
when consumed 3rd party spillover benefits have a significant effect on social welfare
15
Q
- what is a demerit good
- give 3 examples
A
- a good which is over consumed in a free market as it brings less overall benefits to consumers than they realise
- alcohol, cigarettes, sugar
16
Q
what are the characteristics of a demerit good?
A
- individuals do not fully perceive the true cost of consumption
- usually has a negative externality
17
Q
what is a negative externality?
A
when consumed 3rd party spillover detriments have a significant effect on social welfare
18
Q
what is the problem with merit and demerit goods
A
putting a value on an externality is impossible
19
Q
what is an externality?
A
third party effects arising from production and consumption of goods and services for which no appropriate compensation is paid
20
Q
what is another word for externalities
A
external costs
21
Q
what is it important to consider when looking at the effects of social welfare?
A
- private costs and benefits for consumers and producers
- external/ social costs and benefits ( affecting third parties )
22
Q
how do we work out social benefit?
A
private benefit + external benefit
23
Q
how do you work out social marginal costs
A
private marginal cost (SMC) + external marginal cost (XMC)
24
Q
when do we get market failure
A
when marginal social cost doesn’t equal marginal social benefit
25
when do we get social efficiency
when marginal social cost = marginal social benefit
26
give example of negative externalities of production
- pollution from factories
- pollution from fertilisers
- industrial waste
- methane emissions
27
what is negative externality of consumption
occurs when an individuals consumption of a g/s causes a negative spillover/ external cost on third parties
28
give examples of negative externality of consumption
- antisocial behaviour as a result of alcohol consumption
- household waste
- gambling addiction
- obesity
29
what is positive externality in consumption
good/ service is under consumed/ under provided and consuming them benefits a third party
30
give examples of positive externalities of consumption (3)
- health programmes
- free school meals
- nutritional advice
31
how can monopoly power cause market failure?
-market dominance by monopolies and oligopolies can lead to under production and higher prices than would exist under conditions of competition
- damaging consumer welfare and exploiting consumers
32
how is monopoly power controlled?
government legislation such as CMA ( competition and markets authority)
33
1. how can asymetric information and gaps lead to market failure
2. give examples
1. when there’s a lack of symmetry or balance between buyer and the seller the imbalance and consumer gets exploited
2. mechanics overcharging, dentists
34
how can asymmetric information be corrected ?
government legislation
35
1. what is symmetric information?
2. what is asymmetric information?
1. when both parties have the same information
2. when one party has more information than the other
36
give examples of common property resources
- rivers
- canals
- beaches
- air
- roads
37
how can the absence of private property rights lead to market failure? (5)
• property rights cannot be established, (the effectiveness of markets in terms of allocation, pricing and rationing of resources is substantially reduced )
• encouraged opportunities exploiting the lack of private ownership
• misuse of scarce resources is likely
• moral hazard ( assuming someone else will pick up litter ect)
• overuse of resources ( such as depletion of rainforests )
38
1. what is income inequality?
2. how can income inequality cause market failure
- income inequality is the extent to which income is distributed in an uneven manner among a population
2. - it reduces AD ( less disposable income)
- can lead to lack of access to education and healthcare ( less productivity )
- can lead to social unrest and political instability in the form of protests and strikes
39
how can unstable/ volatile prices lead to market failure?
- if commodities such as gas, oil and agriculture are left to the market mechanism we can suffer from erratic prices
- suppliers will then have trouble with planning and investment because they can’t predict prices
- suppliers may also quit market
- commodities feed into manufactured goods
40
why do governments intervene?
to correct market failure with the aim of achieving the socially optimum allocation of resources
41
what are the 5 ways governments intervene?
1. Taxation
2. Subsidies
3. state provision and regulations
4. Max and Min prices
5. prices
42
1. what is a subsidy
when the government pays part of the cost of a good to encourage the consumption of goods which are under provided / under consumed in a free market
43
what are the positives of subsidies? (2)
- encourages positive externalities and creates social efficiency (e.g. public transport)
- helps lower income groups access public/ merit goods
44
how can we evaluate subsidies? (5)
- costs to the government ( could mean an increase in taxes )
- ineffective if demand is inelastic
- can lead to inefficient business ( like tartan steel ) costing the economy more in long run
- could be asymmetric making a subsidy difficult to monitor resulting in inefficient allocation
- may work better if combined with another policy
45
1. what is taxation
2. when would a taxation be used in terms of government intervention
1. the process by which a government collects money from individuals/businesses to fund public services and gov spending
2. used on demerit goods / goods with negative externalities
46
what is a specific tax?
when an exact per unit tax is placed on goods and is the same whatever the price
47
what is an ad valorem tax?
places a certain percentage tax on goods for example VAT in the UK is 20%
48
what are the advantages of taxes? (4)
- would decrease output to a point where SMC = SMP
- revenue for government as people are paying cost
- creates incentives to find alternatives
- could alter consumer behaviour
49
who takes on most of the tax burden when demand is inelastic?
- most of tax will lead to higher prices and consumer burden is greatest
50
who takes in most of the tax burden if demand is price elastic?
producer
51
evaluate the use of taxes in terms of government intervention
- effectiveness depends on elasticity
- could encourage tax evasion, avoidance ect
- specific tax is regressive ( affecting poor more )
- admin costs/ and time spent
- difficult to determine tax level
52
what is state provision?
when public and merit goods are best provided by the government to solve market failure
e.g. NHS
53
what are the advantages of the public sector providing public and merit goods?
- everyone has access
- could benefit from economies of scale
- some goods may not be provided by the private sector e.g. law and order
54
what are the advantages of the private sector providing public/ merit goods?
- decreases demand for public sector which is good because private sector is more efficient because they run off a profit motif
- increases choice and reduced government costs
- implies economic growth, people have more disposable income because of higher wages
55
what are the disadvantages of the private sector providing public / merit goods? (2)
- increases inequality ( low income people can’t afford things )
- service may be poor to increase profits
56
1. how can regulation information and advertising provided by the state help correct market failure ?
2. evaluate
1. - providing info about demerit goods often deters people
- advertising can put people off e.g. pollution and cig packages
- e.g. ban drugs and dangerous chemicals
2. must be enforceable
57
1. how are maximum prices used for government intervention?
2. when would it be used?
3. give an example
1. the government sets a price limit and prevents prices from
2. to correct a positive externality (e.g. uni fees)
58
1. if prices are set below the market equilibrium, what can it lead to?
2. if the max price is above the equilibrium..
1. - shortages and black market activity
- the extent of the shortage depends on the PED of demand and supply
2. ..there is no effect
59
1. how are minimum prices used for government intervention?
2. give an example of where it may be used?
1. the government sets a price floor and prevents prices from going below that level
2. sheep farms in UK, and grain in south africa since it’s a staple food
60
1. what happens if minimum prices are a pick the equilibrium?
2. if the minimum price goes below the equilibrium..
1. there will be a surplus and to maintain this price the government will have to buy it
2. .. there will be no effect
61
how can the government intervene by using prices
- by using road prices that include tolls and congestion charges
- with advances in tech and connecting new vehicles to the internet road pricing will be more effective
62
what is a traceable pollution permit?
-giving firms a legal right to pollute a certain amount
- if the terms pollute less they can sell permit, if they pollute more they need to buy a permit from another firm
63
what is the complication of using a tradable pollution permit?
it’s difficult to know how many permits to give and admin costs can be high
64
what are the advantages of the government using prices and tradable pollution permits to intervene?
- reduced the incentive to pollute encouraging green tech and efficiency
- reduces level of pollution to socially optimum point maximising allocative efficiency and economic welfare
- efficient and equitable for firms ( allows them to stay profitable, competitive and everyone has a fair solution)
- market based solution ( encourages comp)
65
what are the disadvantages of the government using prices and traceable pollution permits?
- Can have high admin costs and can be difficult to enforce
- the fines may not be strict enough
- geographical distribution ( allows the government pollution to be concentrated in specific areas )
- needs international cooperation
66
how can we evaluate the effectiveness of tradable pollution permits?
- depends on the the level of information available to govt ( knowing what the optimum level of pollution is )
- depends on the number of firms who are able to reduce pollution if not they may relocate, or close down business
67
how can the government intervene to reduce income inequality?
- progressive taxation
- benefit systems
- price stabilisation
- national minimum wage
- schemes in agriculture
- guaranteed minimum price
68
