Review 6 Difficult Cases for the Market, and the Role of Government Flashcards
Economic efficiency
A situation that occurs when 1) all activities generating more benefit that cost are undertaken and 2) no activities are undertaken for which the cost exceeds the benefit.
Externalities
Spillover effects of an activity that influences the well-being of non-consenting parties.
External costs
Spillover effects that reduce the well-being of non-consenting parties.
External benefits
Spillover effects that generate benefits for non-consenting parties.
Public goods
Goods for which rivalry among consumers is absent and exclusion of non-paying customers is difficult.
Free rider
A person who receives the benefit of a good without paying for it. Because it is often virtually impossible to restrict the consumption of public goods to those who pay, these goods are subject to free-rider problems.
Repeat-purchase item
An item purchased often by the same buyer.
Negative externalities
Occur when an individual or firm making a decision does not have to pay the full cost of the decision. The cost to society is greater than the cost consumers are paying for it.
Positive externalities
Exist when an individual or firm making a decision does not receive the full benefit of the decision. The benefit to the individual or firm is less than the benefit to society.
Non-rival in consumption
making the good available to one consumer does not reduce its availability to others.
Non-excludable
it is impossible (or at least very costly) to exclude non-paying customers from receiving the good.
The economically efficient amount is the ____________ amount of the good.
optimal
What is the economically efficient amount of pollution?
The amount at which preventing more pollution has the same cost as the benefit of the pollution already produced.
In cases where there is a lack of competition in a market, does the market produce more or less than the economically efficient amount of the product?
less
In cases of negative externalities, does the market produce more or less than the economically efficient amount of the product?
more
What policies could potentially reduce the problem of negative externalities?
taxing the good or service
Assume that the widget market produces an external cost. What is the appropriate tax to correct for this market failure?
A tax sufficient to account for the externality and bring production quantity to the optimum level.
In cases of positive externalities, does the market produce more or less than the economically efficient amount of the product?
less
What policies could potentially reduce the problem of positive externalities?
subsidize the product or service
having the government provide the product or service
Can private markets produce public goods?
yes, but usually at a lower than optimum quantity
In cases of public goods, does the market produce more or less than the optimal amount of the product?
less
What policies could potentially reduce the problem of public goods?
subsidize the product or service
having the government provide the product or service
How do you figure out the optimum amount of a good when there is a negative externality given Quantity, Buyers’ Price, Sellers’ Price, and Marginal External Costs?
Add the Marginal External Costs to the Sellers’ Price, then find the new equilibrium quantity.
How do you figure out the optimum amount of a good when there is a positive externality given Quantity, Buyers’ Price, Sellers’ Price, and Marginal External Benefits?
Add the Marginal External Benefit to the Buyers’ Price, then find the new equilibrium quantity.
How do you figure out the optimum amount of a public good given Quantity, a number of Buyers’ individual Marginal Benefit and the Sellers’ Price?
Add all buyers’ marginal benefit together and compare to the sellers’ price.
What is the appropriate tax rate to correct a market failure due to a negative externality?
Add a tax equal to the marginal external cost to each unit of the good. (it is not possible to accurately measure the marginal external cost)
What is the appropriate government response to correct a market failure due to a positive externality?
Subsidize the product at a level equal to the marginal external benefit. (it is not possible to accurately measure the marginal external benefit)
How do you figure out how many widgets would tend to be produced in a free market, assuming that there is a free rider in this market?
Add the willingness to pay of all non-free riders and compare it to the sellers’ price.
What is the Coase theorem?
If trade in an externality is possible and there are no transaction costs, bargaining will lead to an efficient outcome regardless of the initial allocation of property rights.
Assume that the net benefit to the polluter of emitting a ton of air pollution into the air equals $80 and the cost of the damage of this pollution equals $100, rights to the air are assigned and can be traded, and bargaining costs for the rights to air are insignificant. According to the Coase theorem, if the air polluter owns the rights to pollute the air, will this ton of pollution be emitted into the air?
No, because those harmed by the pollution would pay the polluter more not pollute (or to buy rights to the air) than the polluter could get from polluting.
Assume that the net benefit to the polluter of emitting a ton of air pollution into the air equals $80 and the cost of the damage of this pollution equals $100, rights to the air are assigned and can be traded, and bargaining costs for the rights to air are insignificant. According to the Coase theorem, if the victim of the air pollution owns the rights to pollute the air, will this ton of pollution be emitted into the air?
No, because the polluter would have to pay more for the rights to pollute the air than they would benefit from polluting the air.
