Market Failure

Question 1

Define Market Failure

Answer 1

Market failure occurs when the FM fail to use scarce resources that results in economic inefficiency. This means that there’s not the best allocation of resources for consumers which means the free market mechanism fails.

Question 2

What are the 2 types of economic efficiency

Answer 2

Allocative efficiency- where resources are moved to produce those goods most wanted by the consumers

Productive efficiency- Where the output is produced using the least amount of scarce resources (on it’s PPC)

Question 3

What causes markets to fail?

Answer 3

externalities- A spillover effect from an economic transaction that effects a third party not involved in the transaction.

Question 4

What causes negative externalities to occur?

Answer 4

Negative externalities occur when the social cost is greater than the private cost.
Social cost = Private cost + External cost

Question 5

How do negative externalities cause market failure?

Answer 5

Negative externalities cause market failure because in a free market there is an over production/consumption of goods with negative externalities.

Question 6

What are externalities

Answer 6

An externality is a spillover effect that involves a third party member who is not involved in the economic transaction

Question 7

What ways can governments reduce negative externalities

Answer 7

• REGULATIONN
• INDIRECT TAX
• TRADE/POLLUTION PERMITS

Question 8

Advantages of REGULATION

Answer 8

• A clear simple statement of what people can/can’t do
• Punishments can be imposed on those who don’t obey the law
• DECREASE CONSUMPTION so achieving a more ALLOCATIVELY efficient use of resources

Question 9

Disadvantages of REGULATION

Answer 9

• COST to enforce regulations
• NOT a MARKET BASED solution
• BLACK MARKETS may occur
• NO INCOME for the government

Question 10

ADVANTAGES of INDIRECT TAX

Answer 10

• INCREASES government revenue
• INTERNALIZES the externality -THE POLLUTER PAYS
• CONSUMPTION should DECRAESES as a result of the increase in prices
• TAXATION works in the PRICE MECHANISM ie a MARKET BASED SOLUTION

Question 11

DISADVANTAGES of INDIRECT TAX

Answer 11

• INCREASED COST for firms may make them LESS COMPETITIVE GLOBALLY
• TAX may be REGRESSIVE hitting LOW INCOME groups MORE that HIGH INCOME GROUPS
• DEMAND IS INELASTIC ht eit will have LITTLE EFFECT
• IND. TAXES will INCREASE INFLATION

Question 12

ADVANTAGES OF TRADABLE/POLLUTION PERMITS

Answer 12

• INTERNALISE THE EXTERNALITY
• in the FIRMS INTEREST to pullute as little as possible
• MARKET BASED SOLLUTION using the PRICE MECHANISM

Question 13

DISADVANTAGES OF TRADABLE/POLLUTION PERMITS

Answer 13

-RUNNING COSTS
-PROBLEM SETTING THE CORRECT LEVELS
EQUITY ISSUE. BIASED toward the rich firms

Question 14

what causes POSITIVE EXTERNALITIES to occur

Answer 14

POSITIVE EXTERNALITIES occure when

SOCIAL BENEFIT> PRIVATE BENEFIT

Question 15

HOW do POSITIVE EXTERNALITISE cause MARKET FAILURE

Answer 15

there is an UNDER-CONSUMPTION and UNDERPRODUCTION of GOODS with POSITIVE EXTERNALITIES i.e. TOO FEW resources are used to produce the good meaning it’s not economically efficient

Question 16

WHAT CAN THE GOVERNMENT DO TO INCREASE CONSUMPTION OF GOODS WITH POSITIVE EXTERNALITIES

Answer 16

• GRANT SUBSIDIES

- REDUCE INFO FAILURE

Question 17

ADVANTAGES OF SUBSIDIES

Answer 17

• OUTPUT/CONSUMPTION should INCREASE
• REDUCING the PRICE makes it more available to LOWER INCOME groups
• MORE JOBS in a subsidized industry