Welfare state part I Flashcards
Define welfare state
Welfare state: Concept of government in which the state or a well-established network of social institutions plays a key role in the protection and promotion of the economic and social well-being of citizens
We distinguish between two dimensions of welfare/well-being, what are they?
Efficiency is an objective goal: it can be judged on positive grounds - “make total pie as large as possible” (pie = e.g. GDP)
Equity is a subjective goal: involves normative judgments that go beyond economics - “give everyone his/her fair share of the pie” (more egalitarian outcome)
What is the distinction between welfare state and welfare society.
A welfare society involves norms, institutions and rules in society aiming at correcting the outcomes of an unregulated market economy and in particular aiming at more egalitarian outcome. Not just government intervention.
An example of a distinction is family friendly workplaces. If all workplaces are organized according to norms rooted deeply in the society, e.g. all are off at three p.m. so they can pick up their kids, then if this is rooted in norms there is no reason for the government to make regulations.
Although the public sector is an essential and large element of the welfare state, it is misleading to equate the two since the objectives of the welfare society go beyond the activities of the public sector in a narrow sense (therefore the term welfare society may be more appropriate than welfare state).
What is market efficiency and market failure?
Market mechanism: Competitive markets tend towards efficiency, i.e. maximize total surplus
- total surplus = sum of consumer and producer surplus
Market failure: Situation in which the market fails to produce the efficient level of output. Public policy can intervene to increase efficiency
Which situations might create market failure?
Imperfect competition resulting in market power (e.g. monopoly)
Externalities (e.g. pollution, education, research)
Public goods (e.g. infrastructure, defense)
Asymmetric information (e.g. insurance markets)
What is an externality?
A cost or benefit that affects a third party not directly involved in an economic transaction.
What is an external marginal cost and an external marginal benefit?
An external marginal cost is the cost imposed on a third party when an additional unit of a good is produced or consumed.
An external marginal benefit is the benefit conferred on a third party when an additional unit of a good is produced or consumed.
What is a social cost and a social benefit?
A social cost is the cost of an economic transaction to society, equal to the private cost plus the external cost.
A social benefit is the benefit of an economic transaction to society, equal to the private benefit plus the external benefit.
What is a private cost and a private benefit?
A private cost: cost borne by the producer
Private benefit: benefit received by the consumer
- Contrast negative and positive externalities. Provide an example of each type of externality.
Negative externalities, like pollution, impose costs on third parties not directly involved in the economic transaction, when the social marginal cost is larger than the private marginal cost. Positive externalities confer benefits on third parties, when the social marginal benefit is larger than the private marginal benefit. Factors such as education and increased immunizations provide benefits to people beyond those directly involved.
- Why does an unregulated market overproduce goods with negative externalities?
In an unregulated market, firms pay only the private cost of the good. For a good with a negative externality, this private cost does not equal the social cost of the good, since the external marginal cost of the good is positive. As a result, firms face lower costs than the social cost and overproduce the good.
Why does an unregulated market produce too little of goods with positive externalities?
When a good has a positive externality associated with it, the market will likely provide too little of the good because the external marginal benefit is ignored.
- How can the external marginal benefit and external marginal cost curves be used to find the efficient level of an externality?
The efficient production level of an externality occurs at the intersection between the social marginal cost curve (equal to the private marginal costs plus external marginal costs) and the social demand curve (equal to the private marginal benefits plus external marginal benefits).
- How do regulators use Pigouvian taxes to produce efficient outcomes?
A Pigouvian tax is a tax that equals the external marginal cost imposed by an externality. It is imposed on an activity that creates a negative externality. This tax rate shifts marginal costs up to the social marginal cost, resulting in efficient production on the market. The cost of the tax is split between the consumers and the producers. There is now no deadweight loss.
What is a Pigouvian subsidy?
A subsidy paid for an activity that creates a positive externality. The subsidy raises the effective price at which producers can sell their products, thus making it profit-maximizing for them to increase their outputs to the socially optimal level.
- Describe how tradable pollution permits can be used to address pollution.
The holder of a government-issued tradable permit has two options: The firm may emit a certain level of pollution allowed by the permit, or the firm may trade its permit to another firm in the industry. By restricting the number of tradable permits issued, the government puts a cap on the amount of pollution that a given industry can produce. At the same time, since permits may be traded, the policy allows pollution across individual firms to vary and effectively creates a market for pollution.
What is a quota?
A regulation mandating that the production or consumption of a certain quantity of a good or externality be limited (negative externality) og required (positive externality).
- Compare and contrast Pigouvian taxes and quantity based solutions to externalities. What are some of the advantages and disadvantages of each?
In a market in which the optimal level of the externality is known, a price-based mechanism such as a Pigouvian tax or a quantity-based mechanism such as a quota or tradable permits market will produce the same efficient result. But when the optimal level is unknown, a deadweight loss is produced. Depending on market characteristics, a Pigouvian tax or a quantity-based mechanism will prove more optimal. In particular, the deadweight loss from regulation is minimized in a market with a relatively flat marginal abatement cost curve when a quantity regulation is imposed. A Pigouvian tax is more optimal in a market with a relatively steep marginal abatement cost curve.
What is the deadweight loss?
The deadweight loss equals the area between the marginal benefit of pollution (or the marginal abatement costs) and the marginal cost of pollution for each of the units of pollution between the efficient level of pollution and the current level of pollution.
What is a rival vs a nonrival good?
Rival: one individual’s consumption affects another’s consumption
Nonrival: one individual’s consumption has no effect on another’s consumption
What is an excludable vs a nonexcludable good?
Excludable: Individuals can be kept from consuming
Nonexcludable: Individuals cannot be kept from consuming
What is a public good?
A good that is accessible to anyone who wants to consume it, and that remains just as valuable to a consumer even as other people consume it. Public goods are similar in some ways to positive externalities: They can provide external benefits to individuals other than those who purchase them.
- What are the two defining properties of public goods (or pure public goods)?
Public goods are nonexcludable and nonrival. This means that anyone can access and use the good (nonexcludable), and that any one person’s consumption of the good does not diminish another consumer’s enjoyment of it (nonrival).
What is the total marginal benefit (in relation to public goods)?
The vertical sum of the marginal benefit curves of all of a public good’s consumers.