Market failures Flashcards
Define consumer surplus formula
Maximum price consumer is willing to pay - the actual price
- represents the added benefit (because not having to pay much or if consumer surplus is low, they have to pay a lot :( )
Define producer surplus’ formula
Total revenue - total cost = producer surplus
- additional benefits (money)
When does market failure occur?
when the price mechanisms not optimum — basically when it fails to create a market equilibrium
Why is getting the optimum social surplus impossible?
Everyone has their different economics goals and no matter what, someone would be at a disadvantage
-> negative externalities
Why are negative externalities not regarded by producers or consumers
Cannot be aligned with economic goal
- negative externalities not quantifiable by profit
Outline the resukts of inefficient allocation of resources
- under-provision of certain goods and services [producers] (e.g. from taxes)
- over-provision of certain goods (e.g. from subsidies, price floors)
- under and over consumption of goods
Outline some examples of market failure
The under-provision of merit goods such as education and healthcare
Why do private schools and private hospitals not lower their prices
To maximize profit
When the gov can’t give the services, who would step up?
The producers
When there’s a shortage of labor, who should step up and how?
The government
- can incentivize
- making migration more difficult etc
Define private costs
costs incurred by the consumption or production of goods and services (main economic agents — producers and consumers)
Define externalities
External costs costs or benefits of an economic transaction (selling, buying) that causes the market to fail to achieve the social optimum level of production or consumption
(e.g. fertilizers, air pollution, second-hand smokers etc.)
Define social optimum level of production or consumption
MSC = MSB
Differentiate external benefits and external costs
External costs AKA negative externalities - adverse impacts to third parties (ie. society)
Internal costs AKA positive externalities - positive impacts to third parties
Define private benefits
Advantages enjoyed by an indv or company and/or consumers
Define private costs
actual expenses from buying or producing something
Define social benefits
social benefits = private benefits + positive externalities
-> benefits to the whole society
-> 3rd party (w/o econ agents): pos ext.;
-> economic agents: private ben.;
Define social costs
social costs = private costs + negative externalities
-> costs incurred by the whole society (3rd parties + consuemrs and producers)
Define marginal private benefits (MPB)
additional value enjoyed by households and firms
- after production or consumption of additional unit of output
Define marginal social benefits (MSB)
total gains enjoyed by households and firms and everyone else
- after production or consumption of additional unit of output
Marginal private cost and margincal social cost (CONT)
Describe the social surplus/community surplus
X is allocative efficient (equilibrium price = quantity)
Why can positive externalities can cause market failure?
When MSC < MSB (??):
-market tends to produce less of a good or service with external benefits than is socially optimal;
- due to individuals do not consider the benefits to society
How can merit goods cause market failure
Since merit goods are both rivalrous and excludable,
- merit goods tend to be under-consumed and underproduced due to the irrational nature and imperfect info (they don’t know what is good and bad for them)
Outline the two types of merit goods
1.) Rivalrous
2.) Excludable
Define rivalrous merit goods.
Consumption of. a merit good reduces the available units to others
Define excludable goods
Possible for producers to prevent non payers benefiting from the merit good (private health care, educ, etc.)
Describe this positive externality of consumption graph
There are two demand curves — there’s a difference between the MPB and the MSB.
MSB > MPB
How to know if its underconsumed or overconsumed?
Look at Qopt (optimum quantity consumed)
Describe this graph/differentiate it from the negative externalities
Green triangle = DWL loss due to [in this case] underproduction.
In this case, the difference is between the MPC and MSC (the «S») AND the position of the DWL
- if DWL for neg externalities: base facing right — the DWL of 3rd parties
- if DWL for positive externalities: base facing left — the DWL of producers and consumers
Define negative externalities/external costs
expenses with no compensation felt by the third parties not quantifiable by money
- e.g. pollution, littering, climate change, obesity rates
Why are junk foods demerit goods?
Can increase obesity rates — its not a necessity
Describe this graph
MPC > MSC
Equilibrium — when MSC and MPC RESPECTIVELY = MPB = MSB
The MPB and MSB curve is aligned
Explain this graph
1.) Introduction (consumption -> negative externalities)
2.) Give examples
3.) MSB < MPB
(because MSC > MPC?)
Pe = price of the economy currently
Popt = where the economy should be
Steps to draw an externality diagram
