market failure & externalities
DESCRIPTION
Market Failure & Externalities. When production or consumption of a good or service affects (impacts) ‘third parties’ (people other than the buyers and sellers of the good), these ‘side-effects’ or ‘spillover-effects’ created are called externalities. Positive and Negative Externalities. - PowerPoint PPT PresentationTRANSCRIPT
Market Failure & Externalities
When production or consumption of a good or service affects (impacts) ‘third parties’ (people other than the buyers and sellers of the good), these ‘side-effects’ or ‘spillover-effects’ created are called externalities.
Positive and Negative Externalities
When the impact on the third party is an additional (external or spillover) cost, the externality is called a negative externality (i.e. is harmful to others when produced or consumed)
When the impact on the third party is an additional (external or spillover) benefit, the externality is called a positive externality (i.e. provides some benefit to others when produced or consumed)
Private Costs
External Benefit
External Costs
Private Benefit
Social Benefit
Social Costs
= +
+ =
Private and Social Costs e.g. cigarette smoking
Private and Social Benefits e.g. using public transport
MC,MB, P
Quantity
MPC = S
MPB = D
Pm
Qm
Ps
Qs
MSC
External Cost = Tax
Negative Externality of Production e.g. Pollution From a Power Station
MC,MB, P
Quantity
MPC = S
MPB = D
Pm
Qm
Ps
Qs
MSC
External Benefit = Subsidy
Positive Externality of Production e.g. Planting a Forest
Positive Externality of Consumption e.g. Using Public Transport
MC,MB, P
Quantity
MPC = S
MPB = D
Pm
Qm
MSB
Ps
Qs
External Benefit = Subsidy
Negative Externality of Consumption e.g. Drink Driving
MC,MB, P
Quantity
MPC = S
MPB = D
Ps
Qs
MSB
Pm
Qm
External Cost = Tax
The problem with a public good is that the market will fail to produce them at all. Public Goods are :-
• Non-Rival - where the consumption of a good or service by one person will not prevent others from enjoying it. It can be used at the same time by many people.
•Non-Excludable - Once the good or service is provided it is not possible to stop others from enjoying it too. If you cannot prevent people from using the good or service then it will be impossible to charge a price for using it. Creates the “free rider” problem.
• Non-Depletable - No additional resources are required when additional people use the good or service. Therefore MC = 0
Collective Good - provided by the government and paid for by taxes.
Merit Goods - goods and services that the government considers to be beneficial or good for us. The government feels that people ought to consume these goods. Consumers do not have enough information to make an informed decision about the use of these goods.
Demerit Goods - goods and services that the government considers to be harmful or bad for us. The government feels that people ought not to consume these goods. People over-consume demerit goods as the do not have enough information to make an informed decision.
The government can use:-
- Taxes - Subsidies
- Education - Regulations (Laws)
- Public Provision (provided free)