welfare Flashcards
what is Pareto efficiency?
An allocation of goods is Pareto-efficient if for given:
-consumer preferences,
-resources and technology
it is impossible to move to another allocation which would make some people better off and nobody worse off.
what is pareto optimality?
when the indifference curves are tangent to each other the middle of each point
what do distortions prevent?
Distortions prevent the markets from allocating resources efficiently, there is no Pareto efficient outcome.
name the sources of market failures
Sources of distortions:
Monopoly (P>MC)
Taxation (P>MC)
Externalities (economic values that have no price)
Asymmetric information
Moral hazard
Adverse selection
what is an externality?
An externality is a cost or a benefit imposed upon someone by actions taken by others.
An externally imposed benefit is a positive externality.
An externally imposed cost is a negative externality.
an action done affecting a third party
negative externality examples
Pollution (air, water, soil).
Water pollution.
Loud parties next door.
Traffic congestion.
Second-hand cigarette smoke.
Increased insurance premiums due to fraudulent claims.
Examples of Positive Externalities
A well-maintained property next door that raises the market value of your property.
Improved driving habits that reduce accident risks.
A scientific advance.
Wearing a mask to prevent spreading of an infectious disease
how do Externalities cause Pareto inefficiency?
too much scarce resource is allocated to an activity which causes a negative externality
too little resource is allocated to an activity which causes a positive externality.
what is a purely public good?
A good is purely public if
it is consumed by everyone (nonexcludability), and
everybody consumes the entire amount of the commodity (nonrivalry in consumption).
is an externality a purely public good?
yes
what is MPC ?
the marginal private cost incurred by a firm in producing a good (assumed constant here for simplicity)
what is the social optimum
whee msc = msb
what is the private optimum?
mpc = mpb
In a competitive equilibrium, an efficient allocation implies
marginal private benefit = marginal social benefit
marginal private cost = marginal social cost
marginal social benefit = marginal social cost
When externalities are present, the above relation(s) do(es) not hold and a market allocation is inefficient
