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A Level Economics > Market failure and externalities > Flashcards

Market failure and externalities Flashcards

1
Q

Market failure

A

A price mechanism leading to an inefficient allocation of scarce resources, and a deadweight/welfare loss

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2
Q

Factors impacting market failure

A

Merit goods being underconsumed
Information failures/gaps
Demerit goods
Immobility of factor inputs
Monopolies(productively and allocatively inefficient)
Goods giving off negative externalities(consequences)

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3
Q

Examples of merit goods

A

:Give off positive externalities(are under consumed):
Vegan goods
Public libraries with books
Gym-healthcare
Education
Water

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4
Q

Why should an economy not be left to market forces?

A

There are certain goods(merit goods) that may not be provided for without government intervention(e.g. public transport, healthcare and education), as no profits are made from this

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5
Q

Quasi-goods

A

Goods actually provided by the market and government(e.g. health in the UK)

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6
Q

Example of non-excludable public goods

A

Police- can’t exclude everyone from benefitting from the presence of the police

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7
Q

Causes of labour market failure

A

Markets fail when they fail to reach a socially efficient/equitable outcome: tends to be corrected with government intervention-
Labour immobility
Disincentives to find work
Discrimination by employers
Monopoly/monopoly power by employers

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8
Q

Labour immobility

A

Occupational immobility - barriers to moving easily between jobs
Geographical immobility - barriers to changing location to find a new job

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9
Q

Disincentives to find/take work

A

The unemployment trap - where economic incentives to take a job are poor
The poverty trap - disincentives to earn extra income e.g. Luton are closing down motor manufacturers, leaving many people redundant(without jobs)

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10
Q

Discrimination by employers

A

This is a part explanation of the gender gap in pay and women in senior roles.
Discrimination badly affects wages and employment for affected groups

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11
Q

Monopoly/monopoly power of employers

A

They can use their “buying power” in labour market to drive down wages

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12
Q

Why do public goods cause market failure?

A

Due to the problem of missing markets

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13
Q

Main characteristics of public goods

A
  1. Non-excludability
  2. Non-rival consumption
  3. Non-rejectable
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14
Q

Non-excludability in public goods

A

Benefits derived from pure public goods cannot be confined solely to those who have paid for it

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15
Q

Free rider problem

A

Non-payers can enjoy the benefits of consumption at no financial cost to themselves

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16
Q

Non-rival consumption in public goods

A

Each party’s enjoyment of a good or service doesn’t diminish others’ enjoyment - the marginal cost of supplying a public good to an extra person is zero

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17
Q

Non-rejectable public goods

A

The collective supply of a pure public good for all means it can’t be rejected by people e.g. a national nuclear defence system. We get the government to help us through either a petition or a general election(who we want in a position of power, on the basis of what they can do).

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18
Q

Private good characteristics

A
  1. Excludable(allows for the enforcement of property rights and collection of payment)
  2. Rival consumption
  3. Rejectable
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19
Q

Pure punlic goods

A

Non-excludable and non-rival in consumption(goods usually provided collectively by the state)

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20
Q

Examples of quesi public goods

A

NHS, education(either non-rival or non-excludable, not both)

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21
Q

Examples of pure public goods

A

Reduced risk of disease from vaccinations
Crime control for a community
National parks

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22
Q

Purely private goods

A

Groceries, supplied by firms, which are all in the private sector

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23
Q

Solution/government intervention towards market failure

A

Public sector provision - doesn’t constitute nature of public good

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24
Q

Private goods

A

Goods owned by private individuals/firms/households, for their own benefit

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25
Q

Pricing and Profit

A

Private goods are typically priced in markets based on supply and demand, and consumers pay for what they consume. Private firms are the primary providers of these goods

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26
Q

Examples of private goods

A

Private gyms
Tickets to an event
Meals in a restaurant

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27
Q

Why are public goods financed by government?

A
  1. Non-excludability
  2. Economies of scale
  3. Public interest and equity
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28
Q

Non excludability: why are public goods financed by government?

A

Taxation ensures everyone contributes to the funding of public goods, preventing free riding and ensuring the costs are distributed across the entire population

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29
Q

Economies of scale - why are public goods financed by government?

A

Producing public goods for a larger population can lead to lower per capita costs. Taxation allows governments to collect funds from a broad tax base, which can be more cost-effective in providing these goods compared to private firms or individual transactions

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30
Q

Why are public goods financed by government - public interest and equity

A

Taxation allows governments to allocate resources based on societal priorities, and ensure public goods are provided in a way to promote societal welfare and equity

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31
Q

Government should seek to achieve:

A

Equity(fairness)
Efficiency
The government gives benefits and housing to the bottom of the income scale, as well as free school meals and free education

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32
Q

Case for higher state spending on public goods

A

Economies of scale: It’s more efficient to provide public goods at state level, leading to a lower long run cost per user - cheaper for consumers: greater allocative efficiency
Access and affordability: The absence of profit motive makes public goods affordable - this is important for equity
Investment:Public goods can lead to higher private sector investment e.g. regeneration of economically deprived areas attracting entrepreneurs

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33
Q

Public goods and technological change

A
  1. Advances in technology are blurring the distinction between some public and private goods and services.
  2. In some cases, encryption allows suppliers to exclude non-payers - although the product remains non-rival.
  3. Technological progress reduces the cost of smart-metering(a private good) used in road pricing - making roads more of a private(excludable) good
  4. The open source/Creative Commons movement has made much digital information a public good in nature(this information is non-rival and non-excludable).
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34
Q

Externalities

A

The unintended side effects or consequences of an economic activity or transaction that affect third parties who are not directly involved in that activity or transaction

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35
Q

Externalities

A

Spill-over effects from production and/or consumption for which no appropriate compensation is paid to one or more third parties affected e.g. Thames Water have been putting sewage in the waterworks in the country, but don’t pay to clean the sewage up

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36
Q

Key exam point

A

Externalities lie outside the initial market transaction, and without state intervention, they’re not reflected in the market price

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37
Q

Why are externalities inevitable?

A
  1. Inter-connectedness of Economic Agents
  2. Property rights and transaction costs
  3. Public goods
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38
Q

Inter-connectedness of Economic Agents

A

In a modern economy, individuals, firms and governments engage in a wide range of economic activities. These interactions often have ripple effects that extend beyond the immediate parties involved e.g. when a factory produces goods, it may emit pollutants into the environment, affecting neighbouring communities

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39
Q

Transaction costs

A

How much you pay when buying property

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40
Q

Property rights and transaction costs

A

Property rights are not always well-defined, and transaction costs can be high, making it difficult to negotiate and enforce agreements that internalize externalities e.g. people in flats may have free hold(owning the house plus the land built on), or lease hold(having ownership of the house, but not the land, meaning a tax must be paid to the freehold owner).

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41
Q

Public goods

A

Public goods, such as clean air, often cause positive externalities because they benefit everyone,whether they contribute to their provision or not. Individuals may underinvest in such goods, assuming others will bear the costs

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42
Q

Examples of negative production externalities

A

Factory pollution emissions

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43
Q

Examples of negative consumption externalities

A

Household waste, and air pollution

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44
Q

Examples of positive production externalities

A

Reforestation projects, the free-sharing of academic research

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45
Q

Examples of positive consumption externalities

A

Vaccinations to protect public jealth during a pandemic

46
Q

How do externalities cause market failure?

A

Externalities can cause market failure, because they disrupt the efficient functioning of markets.
Market failure occurs when the allocation of goods and services in a free market economy is not efficient or equitable - leading to outcomes that are not in the best interests of society.
This means externalities lead to a net loss of social welfare.
Externalities can lead to market failures, because the prices and quantities determined by supply and demand in the market do not account for these external costs or benefits.

47
Q

Equity

A

Social cost= private cost

48
Q

Private cost

A

The internal costs faced by the producer or consumer directly involved in a transaction

49
Q

External cost

A

Occurs when the activity of one agent has a negative effect on the wellbeing of a third party. They impose costs on other agents, causing market failure(social cost> private cost).

50
Q

Total social cost=

A

Private cost + external cost

51
Q

External benefits

A

Social benefits, which include private benefits, but also add in the external benefits(which involve the rest of society) that might occur from production and/or consumption

52
Q

Marginal private cost

A

The internal cost to a producer or consumer from supplying or consuming one extra unit of a good or service

53
Q

Private benefit

A

The benefit, satisfaction or utility an individual agent derives from producing or consuming something

54
Q

Marginal external cost

A

Cost to third parties from the production/consumption of an extra unit of output

55
Q

Marginal social cost

A

Total cost to society arising from producing/consuming an extra unit of output

56
Q

Marginal social cost=

A

Marginal private cost + marginal external cost

57
Q

Net private benefit=

A

Private benefits - private costs

58
Q

Net social benefit

A

Private benefits - private costs + positive externalities - negative externalities

59
Q

Why are private costs greater than the private benefits of a motorway?

A

Pollution
Accidents on the motorway

60
Q

Significance of property rights

A

Property rights define and allocate ownership, control and responsibilities over resources and assets.
When property rights are well-defined, it’s easier to determine who should bear the costs or enjoy the benefits of that activity
Well defined property rights facilitate bargaining and negotiation between parties involved in an economic activity(when it’s not clear who’s responsible for a property, there may be problems).

61
Q

Positive impacts of property rights

A

Property rights can incentivise investment in technologies and practices that mitigate negative externalities or create positive ones.
Property rights can help prevent or mitigate the tragedy of the commons(no clearly defined property rights), where shared resources are depleted or overused due to a lack of ownership

62
Q

Example of tragedy of commons

A

Thames Water have been putting sewage in the waterworks, but nobody cleans up(Thames Water know nobody will take responsibility due to no defined property rights for the waterworks)

63
Q

Where are property rights absolutely fundamental?

A

In a free market economy - with the government imposing lots of regulations to protect private property

64
Q

Example of private costs

A

Cost of land and planning permission
Labour costs

65
Q

Examples of external costs

A

Visual pollution
Falling property prices in area(people who own land lose money)

66
Q

Examples of external benefits

A

Lower taxpayer subsidies required in long run, falling property prices in area(for first time buyers), employment created(multiplier effects)

67
Q

Example of negative production externalities

A

Farming - UK farming causes over a quarter of cities’ particle pollution, discharges into rivers
Air pollution from factories
Noise pollution

68
Q

Examples of negative consumption externalities

A

Impact of gambling addiction on families
Passive smoking - inhalation of second hand smoke associated with respiratory infections
Air pollution from smokers

69
Q

Negative externalities - welfare effects

A

External costs from air pollution
External costs from urban road congestion

70
Q

External costs from air pollution

A

Outdoor pollution is linked to around 40,000 deaths each year in the UK.
Air pollution worsens many chronic conditions such as cancer, asthma and heart disease.

71
Q

External costs from urban road congestion

A

Direct and indirect costs of congestion for all drivers totaled £31 billion in 2016, an average of £968 per driver.
The UK is ranked as 3rd most congested in Europe, with drivers spending an average of 32 hours a year in congestion during peak hours.

72
Q

Government regulations for cars

A

To put catalytic converters - to reduce pollution

73
Q

Why do negative externalities lead to market failure:

A

Output Q1 only considers private costs and benefits. If we ignore the externalities, output is too high for a social optimum.

74
Q

Impact of negative production externalities

A

They create external costs, which lead to marginal social cost being above marginal private cost, with negative production externalities creating a divergence between social and private costs

75
Q

Social optimum level of output when there are negative externalities

A

When there are negative externalities that are higher than private costs. Social optimum takes externalities into account(MSC= MPB)

76
Q

Private optimum level of output

A

Where MPB= MPC

77
Q

Negative consumption externalities

A

If consumption of a product reduces benefits enjoyed by third parties, the benefits to society are less than benefits obtained by individuals consuming the product. Negative externalities lead to overconsumption and hence overproduction

78
Q

How the government responds to positive externalities being under-consumed/produced?

A

The government might subside products e.g. education for students in public schools, the NHS receive government sunsidies, the police receive government subsidies

79
Q

Subsidies-

A

Incentives by the government to increase production/consumption, and to encourage positive externalities

80
Q

Positive externalities

A

When third parties benefit from the spill-over effects of production/consumption. When there are positive externalities, social benefits exceed private benefits

81
Q

Social benefit=

A

Private benefit + external benefit

82
Q

Total marginal social benefit=

A

Marginal private benefit + marginal external benefit

83
Q

Examples of positive consumption externalities

A
  1. Apple orchards that allow bee populations to grow
  2. Health care services
  3. Free school meals/improved nutritional advice
84
Q

Government interventions with positive externalities

A
  1. Government provision(e.g. providing vaccines for free) and funding
  2. Government subsidy to consumer(reduces private cost/increases real income)
  3. Government subsidy to producer
85
Q

Do the government want people to stop smoking?

A

Not really - they make lots of tax revenue out of people smoking

86
Q

Choice architecture

A

Influencing consumers to make a certain decision by placing things strategically in certain places so consumers can buy them

87
Q

Positive externalities from production

A

Open-Source Software made freely available to other users.(spillovers from research and development projects in areas like materials science and vaccine platforms)
Spending on infrastructure - reduces delays, lowers costs for logistics/transportation
Growing trees

88
Q

Because there are positive externalities in production…

A

The marginal social cost of production is less than the marginal private cost of production. The socially optimum level of output in this example is therefore higher than the free market equilibrium

89
Q

Subsidies for Tesco to fill up shelves

A

Tax breaks
Low interest rates
The government can give Tesco’s some free money

90
Q

Long run

A

This period lasts approximately 10 years(the amount of time it takes to educate people for a workforce) - but we don’t have time for this, because in that time, economies need to be funded

91
Q

Net social benefit:

A

Social benefit - social cost

92
Q

p

Mixed externalities

A

Mixed externalities occur when production/consumption leads to both external costs and external benefits. The socially optimum level of output will depend on the extent and value
of these negative and positive externalities

93
Q

Mixed externality examples

A

HS2:
Positive externalities - Getting into Birmingham faster, creating lots of jobs
Negative externalities - Costs too much, less spending on other infrastructure(healthcare), destroying view of countryside(lots of homes and villages destroyed)

94
Q

What are mixed externalities also known as?

A

Partially internalised externalities

95
Q

Other mixed externality examples

A

Motorways-
Positives of M25: Less traffic congestion in London
Negatives of M25:
Costs money to build, accidents could happen
Low traffic neighbourhoods:
Positives - Protects neighbourhood, less chance of accidents
Negatives - Congestion will occur somewhere else
Agricultural Pesticide Usage(to protect crops from pests and diseases)

96
Q

Why are mixed externalities more complex to address than cases with purely positive or negative externalities:

A

Policymakers need to consider both types of effects and find ways to encourage the positive aspects, while mitigating the negative ones

97
Q

Positive externalities of pesticides

A

Can lead to increased agricultural productivity and higher crop yields- meaning food security, lower food prices, and supports the livelihood of farmers and agricultural workers

98
Q

Negative externalities of pesticides

A
  1. Risk of environmental pollution
  2. Pesticides can leach into the soil, contaminating groundwater and nearby water bodies.
99
Q

Example of market failure

A

Externalities - both positive and negative externalities

99
Q

Missing markets

A

Where provision of goods/services is purely determined by the authorities

100
Q

What government interventions can help reduce negative externalities and therefore correct market failure

A

Carbon taxes
Taxing demerit goods - to discourage over consumption

101
Q

Carbon tax

A

A tax on the consumption or production of goods and services which can cause carbon emissions. It’s a policy designed to make the polluter pay for externalities created(internalising externalities). e.g. Keir Starmer’s government aren’t taxing people polluting water, because they’re weak and corrupt.

102
Q

Impact of carbon taxes

A

A tax on carbon increases the private cost of emitting carbon - causing output to contract towards the social optimum.
A carbon tax will raise tax revenues that might be used by the government to fund clean energy products or use as a rebate to those affected(such as consumers and businesses)

103
Q

1.

Aim of carbon border tax

A

A carbon border tax aims to reduce emissions by placing a tariff on imports from countries with less stringent(more relaxed) climate policies(e.g. big polluters like America or China)

104
Q

Key features of a carbon border tax

A
  1. The idea is to level the playing field)between richer and poorer countries) for domestic companies that are subject to carbon pricing or other climate regulations by preventing foreign companies from gaining a competitive advantage through lower costs.
  2. Requires importers to pay a fee for the carbon emissions embedded in the products they’re exporting.
  3. The European Union is developing a carbon border tax mechanism, which is set to be introduced in 2023. The EU are still Britain’s neighbours who trade with them
105
Q

Examples of poorer countries

A

Ethopia
Zimbabwe
Sierra Leone

106
Q

How rich countries become wealthy

A

By burning fossil fuels and causing pollution, whereas poorer countries are told not to industrialise(they should clean up and electrify instead)

107
Q

When did Britain leave the EU

A

31 January 2020

108
Q

Advantages/justifications to Europe introducing a carbon border tax

A
  1. Encourages countries with weaker climate policies to take action to reduce their carbon emissions
  2. Protects domestic industries: Helps to prevent carbon leakage, which occurs when companies move production to countries with weaker climate policies
  3. Green tariffs generate revenue for climate action: used to fund climate action, such as investment in renewable energy and energy efficiency
109
Q

Disadvantages/drawbacks to Europe using a carbon border tax

A
  1. Could lead to trade disputes if seen as a protectionist measure- will hamper exports from poorer countries(arguments between Trump and China - Trump is threatening to impose tariffs on Chinese vehicles going to America).
  2. A carbon border tax would increase the cost of imported goods, which could lead to higher consumer prices. This will have a regressive impact on low income households.
  3. Simpler to have a global carbon price, which would be levied on all companies per tonne of CO2 produced as a result of their operations. But agreement on this is a long way off.
110
Q

Number of countries in EU

A

27

111
Q

Consequences if burning carbon without a permit:

A

Could get fined. You can buy carbon permits as a country, to exchange with other countries

A Level Economics (13 decks)

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