Brainscape's Knowledge GenomeTM

Browse over 1 million classes created by top students, professors, publishers, and experts.


See full index

Economics Theme 1 > 1.3 Market Failure > Flashcards

1.3 Market Failure Flashcards

1
Q

Define market failure

1.3.1

A

A situation in which the free markets equilibrium does not lead to a socially optimal allocation of resources, such that too much or too little of a good is being produced and/or consumed.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
2
Q

Why might markets fail?

1.3.1

A
  • over or under producing goods (partial market failure)

- may not be a market present (missing markets rare; complete market failure)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
3
Q

Types of market failure

1.3.1

A
  • Externalities
  • Under-provision of public goods
  • Information gaps
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
4
Q

What is an externality?

1.3.2

A

A cost/benefit external to a market transaction, not reflected in the market prices - may affect 3rd parties not involved in the transaction.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
5
Q

What is a private cost?

1.3.2

A

Cost incurred by an individual (firm/consumer) as part of its production/other economic activities i.e. they take it upon themselves e.g. raw materials

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
6
Q

What are external costs?
What are they due to?
When do they exist?

1.3.2

A

Costs associated with an indidivudal’s production/other economic activities borne by a third party and not reflected in market prices.
Due to an over consumption/production.
Exist when social costs > private costs

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
7
Q

What are private benefits?

1.3.2

A

Benefit from an individual’s (firm/household’s) economic activity that accrue to that individual.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
8
Q

What are external benefits?

1.3.2

A

Benefit that society receives from the indidivudal’s engaged in economic activity (above & over those that accrue to the individual.)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
9
Q

What is social cost?
What is social benefit?

1.3.2

A

Social cost = Private + external cost

Social benefit = Private + external cost

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
10
Q

What is marginal social cost?

1.3.2

A

Cost to society of producing one additional unit of a good

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
11
Q

What is marginal social benefit?

1.3.2

A

Benefit to society of producing one additional unit of a good, or of consuming one additional unit of a good.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
12
Q

What is the issue of deciding positive and normative externalities?

1.3.2

A
  • positive vs normative
  • probability of occurrence
  • morally right?
  • there will always be a value judgement involved
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
13
Q

Impact/externalities of economic growth on the environment

1.3.3

A

Global warming
River water
Acid rain
Biodiversity

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
14
Q

What are private goods?

1.3.3

A

A good that once consumed by one person cannot be consumed by somebody else; excludable & rivalrous

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
15
Q

What are (pure) public goods?

1.3.3

A

A good that is non-exclusive & non-rivalrous & non-rejectable.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
16
Q

What are quasi-public goods (non-pure public goods)?

1.3.3

A

A good which does not perfectly possess the characteristics of non-rivalry and non-excludability but is also not perfectly a private good.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
17
Q

Where and why are there “missing markets”?

1.3.3

A

There is no incentive for private firms to produce certain goods.
These are provided by the gov, who decide the best level of output by estimating the social benefit.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
18
Q

What does non-rivalrous mean?

1.3.3

A

Consumption of a product by one person does not prevent another person from also consuming the product.

a. k.a non diminishability/non exhaustability.
e. g. TV or radio.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
19
Q

What does non-excludable mean?

1.3.3

A

A situation in which it is not possible to provide a product to one person without allowing others to consume it as well.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
20
Q

What is non-rejectability?

1.3.3

A

Not possible for people to opt-out of using it e.g. light house.

21
Q

Why can car manufacturers exclude someone from purchasing its cars?

1.3.3

A

If the person cannot afford it. Hence cars are private goods.

22
Q

What is the marginal cost of producing an extra unit of a pure public good?

1.3.3

A

Zero

23
Q

Examples of public goods

1.3.3

A 
Clean air
Defence
Community policing
Vaccinations
Health (public element)
Education (public element)
National parks
Irrigation systems
Judiciary and prison systems
Street lighting
24
Q

What is the free-rider problem?

1.3.3

A

An individual cannot be excluded from consuming a good, thus has no incentive to pay for its provision.

25
Q

What is a free-rider?

1.3.3

A

Someone who doesn’t pay for the benefit they are receiving for a good/service or only make a token contribution.

26
Q

How does the free-rider problem & public goods relate to market failure?

1.3.3

A

Leaving provision of public goods to the market mechanism would lead to market failure because of the free rider problem. People cannot easily be excluded from consumption so leads to under provision in private sector as firm would have difficult charging for the product, since it could not be sold to benefit indidivudal citizens. Only solution is for state to provide it and charge through taxation.
e.g. flood defences

27
Q

Examples of Quasi public goods

1.3.3

A

Roads are non-rival and non-exlucdable as beenfits of road space cannot be confined to an individual but become excludable with road pricing e.g. toll roads in EU.
Semi non excludable.
Roads can rival during peak congestion so semi non rival.

Beaches; excludable if owned by hotel that restricts entry.
Rival during peak congestion in summer.

28
Q

All industries need public goods

A 
Power, water treatment systems
Environmental laws to operate within
A literate, educated workforce
Corprate law
Trust in banking system
Physical connectivity
Agreed and enforced industry standards.
29
Q

Ways to overcome the underprovision of public goods by private sector?

1.3.3

A

Government can provide & charge through taxation or subcontract with private firms.
Govs may use local authorities who subcontract or private companies to supply public goods.

30
Q

How does technology affect public goods?

A

Increases ability to exclude consumers e.g. electronic road pricing; TV forced to pay subscription as reception is encoded; ships entering port forced to pay takes to maintain lighthouses.

31
Q

What are reasons for increasing gov spending on public goods?

1.3.3

A

Economics of scale; more efficient to provide at state level.
Improve access & affordability; crucial for equity & social welfare
Private sector will not provide these goods
Drive higher trend economic growth & improve LRAS (seen as fiscal side policy)
Lead to higher private sector investment through improvement in communications, roads, housing stock etc. bringing regional regeneration.
If cost of borrowing is low.

32
Q

What are reasons against increasing gov spending on public goods?

1.3.3

A

Absence of profit motive could lead to x-inefficienies & diseconomies of scale
Weak institutions, increased gov spending could be wasted on vanity projects e.g. lavish gov buildings/unneccessary military hardware or money go into officials own bank accounts; allocative inefficiency
May do so without proper cost/benefit analysis & project could suffer information failure, thus gov failure.
May be better to fund through taxation but for private sectors to provide service e.g. prison service/road maintenance to avoid costly delays of the investment.
Market incentives may be better for promoting innovation & dynamic efficiency in long run through profit motive so private sector not crowded out.

33
Q

What is information failure?

1.3.4

A

Where buyers and sellers don’t have the info they need to make decisions that maximises their welfare so they have info failure/ an info gap.

34
Q

What is asymmetric information?

1.3.4

A

Exisiting information is not shared equally between two parties and either the buyer or seller has better/more info about market conditions - rational decisions cannot be made.

35
Q

Examples of asymmetric information

1.3.4

A

Consumer buying second hand good - does not know history of good or quality.
Mechanic can dupe customer into having unnecessary repair work done on their car.
Customers make irrational decisions because they do not possess the full knowledge of the state of the car.

Healthcare, tobacco, education & second hand cars.

36
Q

What are merit goods?
Type of judgement?
How do they relate to externalities?
They tend to be…

1.3.4

A

Goods deemed to be more beneficial to consumers than they realise.
Normative judgement
Positive externalities in consumption of merit goods e.g. healthcare, education, exercise, healthy eating.
Tend to be under-consumed & under-produced

37
Q

Why are irrational decisions made?

1.3.4

A

Lack of information (imperfect information)
Habitual behaviour
Weakness of computation
Too much choice

38
Q

What are de-merit goods?
Type of judgement?
How do they relate to externalities?
They tend to be…

1.3.4

A

Goods deemed more harmful to consumers than they realise.
Normative judgement
Due to imperfect info - asymmetric info (buyers know less than sellers, sellers don’t share)
Information is not present or not clear or it is being ignored.
Negative externalities in consumption e.g. cigs, alcohol, gambling
In free-market tend to be over-consumed & over-produced.

39
Q

The outcome of information gaps

A
  • Irrational decisions lead to under/over consumption where welfare is not maximised in the long run
  • Too few/many resources area allocated; misallocation of resources, allocative inefficiency & market failure
40
Q

What are causes of imperfect information?

1.3.4

A

Include info that is: complex, inaccurate, misleading or where costs & benefits are difficult to identify in the short run.
Lead to poor decision making

41
Q

What is price information?

1.3.4

A

Unable or unwilling to find the best prices.

42
Q

Examples of suboptimal markets due to information failure

A
  • Difficulty identifying best A levels to take to gain entry to right uni course.
  • Taking out a loan & understanding interest rates
  • Food nutrition; obesity?
  • Second hand goods
43
Q

What is adverse selection?

When does it occur?

A

A situation in which a person at risk is more likely to take out insurance.

Occurs when there is asymmetric information between buyers & sellers.
Unequal information distorts the market & leads to market failure.

44
Q

Ways to overcome issues caused by information gaps in:

  1. Tobacco
  2. Second-hand cars
  3. Pensions
A
  1. Ban advertising/increase information. ban in public places.
  2. AA inspection schemes/offering of warranties to improve the flow of information about quality of cars for sale
  3. Regulations introduced in UK requiring workers to be enrolled in a workplace pension scheme.
45
Q

What is moral hazard?

An example?

A

A situation in which a person who has taken out insurance is prone to taking more risk.

2008 USA banks sold high risk mortgages in subprime but knew gov would bail them out.

46
Q

What is the principal-agent problem?

When does it occur?

A

Occurs where goals of principals, those standing to gain or lose from a decision are different from agents, those making decisions on behalf of the principal.

e.g. parents, government (agents)
children/student (principals)
Children suffer from asymmetric info; don’t see the long term benefits of education. Won’t devote enough hours to education - misallocation of resources.

47
Q

Role of advertising and information gaps

A

Small minority of advertising is informative but showing whether there is a sale or not is increasing buyer knowledge.

Designed to change attitudes on the part of the buyer.
Attempts to increase information failure to the benefit of the seller.

Framing issues e.g. promoting vitamin c in a drink but not large quantity of sugar.

48
Q

Ways to correct market failure

A

Provide full and accurate information e.g. gov TV ads & clear product labelling
Campaigns to raise awareness
Performance league tables for schools
Consumer protection laws e.g. Consumer rights act 2015
Industry standards & product guarantees
Online reviews lead to firms changing their behaviour
The market may provide solution e.g. TV programs (watchdog)
Online reviews could lead to firms acting in a more open & honest way.

Economics Theme 1 (8 decks)

Brainscape helps you reach your goals faster, through stronger study habits.
© 2024 Bold Learning Solutions. Terms and Conditions