Market failure ppt

Question 1

Market economy

Answer 1

• economic system where the decisions concerning production and distribution are made by market forces (Individuals and private sector).

Question 2

Mixed market economy

Answer 2

Mixed Economy is an economic system where the decisions concerning production and distribution are made by a combination of market forces and government decisions.

Question 3

The rationale for government intervention in a market economy is based on the argument of _______.

Answer 3

market failure

Question 4

Why do market failures occur?

Answer 4

operation of market forces create unfavorable and inefficient outcomes

Question 5

What are the 5 main types of market failures?

Answer 5

• provision of goods and services
• income distribution
• externalities
• abuse of market power
• economic instability

Question 6

How can market failures occur in the provision of goods and services?

Answer 6

• can arise when the allocation of goods and services is less than optimal in terms of maximizing the society’s welfare
• includes the inadequate provision of:
• collective/common goods and services
• public goods
• merit goods

Question 7

what are public goods?

Answer 7

• a good which is difficult to prevent people from using regardless of whether they paid, once provided
• e.g. clean air, street lighting, national defense, public park

Question 8

what are the two major characteristics of public goods?

Answer 8

• non-excludable
• non-rival

Question 9

What does “non-excludable” mean in terms of public goods?

Answer 9

• attract “Free Riders”
• benefit without contributing towards their costs via taxes
• therefore, no incentives for the private sector to produce these goods as consumers will not pay for them (no profit)
• therefore, these goods are undersupplied in the market economy, requiring intervention from the government
• Non-excludable means that it is impossible or highly impractical to exclude individuals from using the good once it is provided. In terms of public goods, this means that once the good is available for consumption, everyone has access to it, regardless of whether they contributed to its provision or not.

Question 10

What does “non-rival” mean in terms of public goods?

Answer 10

one person’s enjoyment of a public good doesn’t diminish the potential for others also to enjoy them.

Question 11

What are collective goods/ common goods?

Answer 11

• goods that require a collective effort to produce
• MUST BE non-excludable in consumption (otherwise would not be provided)
• might be provided by private firms, but due to inefficient quantities, government get involved
• e.g. education, health, social security, welfare, electricity, water, gas, telecommunication

Question 12

Tragedy of the commons

Answer 12

• put short term interest against common good
• provides opportunity for individuals to benefit themselves while spreading any negative effects across the larger population
• causing overgrazing, overfishing, overpopulation
• specific: coal plant (cheap power at first, pollution if long term), producing antibiotics, purchase of bottled water

Question 13

What are merit goods?

Answer 13

• goods and services that government believes are beneficial to society, but may not be produced in adequate quantities as the market is too small or due to less incentives for private production
• e.g. TV, Radio, Sydney Opera House, theatres, film, art, healthcare
• provided directly (e.g. operating/ funding hospitals) and indirectly (financial support for art groups

Question 14

What are demerit goods?

Answer 14

• items that harms the community
• e.g. tobacco, alcohol, addictive drugs, gambling
• due to their negative outcomes, their productions and sales can be limited by the government (license to sell alcohol, heavy fines for underage alcohol consumption

Question 15

How does government intervene allocation of resources?

Answer 15

1. influence the way business and consumers behave in the market via taxation
2. By producing goods and services by themselves (gov. spending)
3. regulatory policies for sales of certain goods

Question 16

Why does the government intervene in production?

Answer 16

• free market does not always provide the most efficient allocation of resources for the economy as a whole

Question 17

main purpose of taxation

Answer 17

raise revenue that allows the government funding

Question 18

2 types of taxes

Answer 18

1. Direct Tax ( paid by individuals/business firms that cannot be passed onto someone) Example : Personal income tax, company tax, capital gain tax
2. Indirect Tax (paid by individuals/business firms that can be passed onto someone) Example : GST

Question 18

How does taxes influence demand of a certain product?

Answer 18

• charge producers
• producers increase product price
• decrease consumer demand
• decrease production

Question 19

What does the government readdress market failure?

Answer 19

1. Funding
2. Grants for starting-up business/ new growth industries
3. Subsidies
4. Cash payments

Question 20

Describe the inequality in Income Distribution.

Answer 20

• If the free market is left to operate on its own, it will produce substantial inequality in distribution of income.
• Rich people will get even richer as they accumulate more land and resources.
• In Australia most common form of poverty is relative poverty, whereas few people live in absolute poverty.

Question 21

Why does the government intervene in distribution of output?

Answer 21

the free market does not always provide a socially desirable or fair distribution.

Question 22

How does the government intervene in distribution of output?

Answer 22

Social welfare Payments – Payments for the Seniors, unemployed

Progressive income tax – government causes an overall redistribution of income to achieve a more equitable sharing of produced output. They use progressive tax system for this. In this system high income earners are taxed at a higher marginal rate.

Question 23

Externalities

Answer 23

a side effect or consequence of an industrial or commercial activity that affects other parties without this being reflected in the cost of the goods or services involved

e.g. airlines and passengers do not consider aircraft noise when negotiating airfares
the noise and congestion from a concert which may affect local residents is an externality

Question 24

What do externalities have to do with market failures?

Answer 24

They are a form of market failure because they occur where the price mechanism fails to represent the true costs and benefits of production

Question 25

Compare postive externalities and negative externalities

Answer 25

pos:
- externalities that deliver benefits to third parties, e.g. eco-tourism business cleans up a polluted river for an expedition
neg:
- externalities that have harmful effects on the economy, e.g. Pollution, worsened air quality, global warming, loss of biodiversity

Question 26

How does the government intervene externalities?

Answer 26

• taxing goods when their production generates spillover costs
• increases costs of production-> better reflects true cost of production (includes spillover costs of, e.g. pollution)
  OR
• provide subsidy to encourage positive externalities

Question 27

what is the word for taxing externalities?

Answer 27

internalizing the externality

Question 28

What are the ways that firms can abuse their market power?

Answer 28

Monopolization –
Firm using its dominate market position to eliminate existing competition.

Price discrimination –
selling same product at different prices in different markets

Exclusive dealing –
firms sets conditions for supply that exclude retailers from dealing with other competition

Collusion and market sharing – firms get together and agree on a pricing and market sharing arrangement (cartel) that reduces effective competition

Question 29

Monopoly (economy)

Answer 29

a market structure where a single seller or producer assumes a dominant position in an industry or a sector.

Question 30

Oligopoly

Answer 30

a market structure that consists of a small number of firms, who together have substantial influence over a certain industry or market.

Question 31

Monopolistic competition

Answer 31

when many companies offer competing products or services that are similar, but not perfect, substitutes.

Question 32

Market instability

Answer 32

• broader level in the entire economy
• problem of boom-bust behaviour of economic activity in the business cycle
  During the boom the economy grows, jobs are plentiful and the market brings high returns to investors. In the subsequent bust the economy shrinks, people lose their jobs and investors lose money.

Question 33

Business cycle

Answer 33

fluctuations in the level of economic growth due to their domestic or international factors

Question 34

How does the government intervene market instability?

Answer 34

• using Policies that are designed to smooth fluctuations in the business cycle, called “macroeconomic policies”.

Question 34

What are the two types of macroeconomic policies?

Answer 34

1. monetary policy
   set of actions available to a nation’s central bank to achieve sustainable economic growth by adjusting the money supply via interest
2. fiscal policy
   uses government spending and tax policies to influence macroeconomic conditions

Question 34

why do governments intervene in the market economy in terms of resource allocation, income distribution, and economic stability?

Answer 34

• to provide important g&s that would not otherwise be provided by the private sector
• ## restrict production of harmful goods
• ## to create a fairer society and look after people
• to smooth out sharp fluctuations in the economic cycle
• to ensure stability in the economy and the financial system