Market Failure Flashcards
What markets can externalities exist in?
All markets -> even perfectly competitive ones
What is the problem with externalities?
They are directly imposed on non-market participants
In an externality diagram what 2 supply curves are there?
SMC = Social Marginal cost MPC = Marginal Private cost
Which of these curves is mainly considered by produers?
The MPC
How is the consumer and producer surplus affected by the existence of an externality?
They aren’t, they will remain the same if the externality exists or not, but a deadweight loss will exist
What is a Pigouvian Tax?
A government policy that can be used to increase firm efficiency and thus reduce or remove the deadweight loss
How big will the government want this tax to be?
They will want to make sure that the tax is big enough to make social costs and private costs equal
What impact will the tax have on the externality and who will pay it?
The firm will internalise the externality, paying it themselves
Why is deciding the tax difficult?
It requires a lot of information to know how big it should be and how to best implement it
What other issue exists within a Pigouvian Tax implementation?
The social optimum that the tax tries to achieve can be subjective -> different people/parties may believe it exists at different points
How is the size of the tax calculated?
The equilibrium price and quantity are identified. The cost of the externality is then calculated and added on to the equil price and quantity to bring about the socially optimum price and quantity
How will the firm being a monopolist affect the success of a Pigouvian Tax?
Adding a tax will not be effective because the firm will just decrease production to the point of under-production, or they will pass the cost of the tax onto the consumer through higher prices -> creates a new market failure
What is an alternative solution to externalities?
Create a market for that externality which is co-ordinated by an authority e.g. pollution permits
What issue arises from consumption externalities?
It means that a competitive equilibrium may not be a Pareto efficient one
For roommate smoking example:
Check notes
How can we bring about a more efficient outcome when consumption externalities exist?
Property rights can be assigned to one of the members in the group -> trade can now occur that will allow utility and efficiency to increase
What are the limitations of introducing property rights?
In some cases it can be very hard to define those rights -> e.g. for non-tangible goods
What 2 conditions do public goods have?
Non-rival = can be consumed by more than one person at a time Non-excludable = no one can be prevented from consuming them
Do all public goods always have these 2 conditions?
No, most public goods lie in a continuum between public and private goods -> they can be differentiated and in some cases charged for e.g. education and healthcare
How does crowding impact public goods?
Crowding can make public goods more rival -> as the number of people using it increase, the utility decreases and costs may increase e.g. firework displays - if more people are there your view gets worse
How do we derive market demand for private goods?
You find the quantity that people demand at a certain price and horizontally sum that to find out what total market demand is at a given price level
How do we derive market demand for public goods?
Given that the quantity can now be consumed by all at the same time, you find take a quantity and vertically sum to find the marginal willingness to pay of consumers at that quantity
What is the efficient private good output level in the private good market?
Where MC = Dm -> consumer 1 consumers were MC = D1 and consumer 2 consumes were MC = D2
What is the efficient public good output level in the market?
Will again be where MC = Dm, but in this case D1 + D2 = MC
For PPF analysis about public vs private good endowments:
Check notes
What is the role of governments in relation to public good consumption?
We look to the government to bring our private incentives in line with socially desirable levels of investment into public goods
What role does the government have in supply in the public good market?
The government will either directly supply the good and tax individuals to finance that supply, or they will subsidise others to provide them
