Theme 1 - Market failure 1.3

Question 1

What is an externality?

Answer 1

When the affect of consuming or producing a good impacts people of a third party who are not involved in the economic transition

Question 2

What are private costs?

Answer 2

This is the cost to the firm of producing a good/service

Question 3

What are social costs?

Answer 3

The impact to society as a result of producing the good or service

Question 4

What are private benefits?

Answer 4

The gain to the individual for consuming the good/ service

Question 5

What are social benefits?

Answer 5

The gain to society of the individual consuming the good/service

Question 6

what is the difference between a negative externality and a positive externality?

Answer 6

Negative is when the social costs are higher than the private benefits and positive is when the social benefit are higher than the private benefits

Question 7

What are some examples of negative externalities of production?

Answer 7

Firms manufacturing cars/steel or transportation of cargo creates an externality of pollution from carbon emissions which impact third parties that aren’t involved in the production process

Question 8

What are some examples of positive externalities of consumption?

Answer 8

Education. The externality is the increased output, increased productivity and higher skilled labour. Healthcare because improved welfare of economy and decreased mortality rates

Question 9

What is the socially optimum point?

Answer 9

This is the point at which society benefits are equal to costs so this is the point at which individuals should consume and firms should produce.

Question 10

What is meant by deadweight loss on an externality diagram?

Answer 10

Negative - The cost to society lost from ignoring the externality
Positive - The benefit to society that has been lost because of firms ignoring the externality.

Question 11

What are some ways in which the government can try and remedy a negative externality? Explain them

Answer 11

Pigouvian tax - this is when an tax is imposed to decrease the supply of something to decrease the social cost. This is said to increase COP so prices rise and demand decreases
Warrents/rights - this means governments allocate permits for things to firms who need it to control externalities

Question 12

What are public goods?

Answer 12

These are goods allocated by the government which can be non-rivalry and non-excludable

Question 13

What is meant by non-rivalry and rivarly

Answer 13

Non-rivalry = This is when the consumption of a good/service by one person doesn’t limit consumption for someone else
Rivalry = When the consumption of a good/service does limit the consumption for someone else

Question 14

What is meant by non-excludable and excludable

Answer 14

Non-excludable = this is when someone doesn’t have to pay for a good/service to benefit from it
Excludable = This is when someone has to pay for a good/service to benefit from it

Question 15

What are private goods?

Answer 15

They usually inhibit excludability and rivalry

Question 16

What is a quasi public good? Example?

Answer 16

A public good that can have private good characteristics. For example a toll road. One person using the road doesn’t limit the access to someone else so it is rivalrous but it does make it excludable as you have to pay to benefit.

Question 17

Why might public goods not be provided by the free rider problem

Answer 17

Some goods/services mean that people can benefit from something without paying for it because other consumers have. This allows some people to get away from paying for the good which means if it was a private good, firms would not be able to maximise profits.

Question 18

What is meant by goods being under-provided by the free market?

Answer 18

• Hard to value public goods
• Consumers may wait and see to see who will pay for the public good which means no one will get it
• Firms will over value to gain high revenues and consumers will undervalue to pay cheap prices which causes goods to be underprovided

Question 19

What is adverse selection?

Answer 19

This is when in a market, sellers have more information than buyers and so the market charges the medium price. The person who needs the product least will leave the market and so this will push the price up the next medium price. This may drop another person out the market. As a result the price becomes more expensive and fewer people will demand the good leading to market failure as people are being prevented from having that good

Question 20

What is the main example of adverse selection?

Answer 20

Life insurance - between healthy and unhealthy people meaning people who are healthy are likely going to leave the market

Question 21

What is the death spiral?

Answer 21

This is the near or total collapse of a market because of a bad series of events. Usually, adverse selection leads to no one in the market receiving the good

Question 22

What is inertia?

Answer 22

A tendency to do nothing or remain unchanged