Principles of Economics 5.2 - Market Intervention*

Question 1

Why is a monopoly an example of market failure?

Answer 1

The market doesn’t lead to an efficient allocation of resources and we have a deadweight welfare loss

Question 2

Give the 2 extremes in which market failure occurs

Answer 2

• At one extreme, goods & services might not be provided at all.
• At the other, goods may be over-supplied despite harmful effects on
  individuals, firms or the environment

Question 3

Explain public goods vs private goods

What are the factors of each good?

Answer 3

• Most goods are private goods, which are excludable & rivalrous.
• Excludable: people can’t consume them unless they pay for them.
• Rivalrous: one person’s consumption stops another person from
  consuming the good.
• The alternative is public goods, which are non-excludable & non-
  rival.
• Non-excludable: someone who does not pay cannot be prevented from
  consuming the good.
• Non-rival: one person’s consumption does not affect another person’s.
• Private goods can be provided by markets. Public goods cannot be
  provided through a market system and hence we have market
  failure (goods not being provided at all).

Question 4

Explain why market failure arises with public goods

Answer 4

• Market failure arises with public goods because of the free rider
  problem. A free rider is a person who benefits from a good/service
  without paying for it.
• In the presence of free riders, a private market breaks down / doesn’t
  produce an efficient outcome.
  ** Example: a fireworks display where attendees must pay to enter. Due to the nature of fireworks, you cannot stop people from enjoying
  them without paying (e.g. standing outside the gates and watching). This is an example where providing the service (the fireworks display)
  confers an external benefit to third parties who are not part of the
  transaction… we will talk more about external benefits (and costs) later in
  the lecture*