1.3 Market failure Flashcards
(24 cards)
what is market failure
market failure occurs when the market fails to allocate scarce recourses efficiently, causing a loss in social welfare
3 main types of market failure
Externalities
Under-provision of public goods
Information gaps
types of market failure - externalities
the cost or benefit a 3rd party receives from an economic transaction - spill over effect
leads to the under or overproduction of goods meaning resources are not allocated correctly
types of market failure - Under provision of public goods
public goods are non-rivalrous and non-excludable meaning they are underprovided by the public sector due to the free rider problem.
types of market failure - Information gaps
economic agents do not always make the most rational decision due to limited knowledge - there can also be imbalances in information such as consumers limited knowledge about insurance, making them make irrational decisions
private costs/benefits
the costs/benefits to an individual participating in the economic activity
demand curve represents private benefits and the supply curve represents private costs
social costs/benefits
costs/benefits of the activity to society as a whole
external costs/benefits
the costs/benefits to the 3rd parties not involved in the transaction
difference between private costs/benefits and social costs/benefits
what is a merit good
a good that has greater benefit to society than the individual consuming it
tend to be underprovided by suppliers
what is a demerit good
a good with external costs where the costs to society is greater than the cost to the individual - overprovided by the free market
what 5 ways can a government intervene to prevent a market failure from exernalities
Indirect taxes / subsidies
tradable pollution permits
provision of the good
provision of information
regulation
what is a public good
a good that every member of a society can use without exhausting the supply of it that is available to others.
2 characteristics of a public good
non rivalrous
non excludable
what is a non rivalrous good
a good that can be used by everyone and one persons use does not prevent another from using it
what is a non excludable good
a good that you cannot stop someone from using and one that a person cannot choose to access
what is a quasi public good
goods that are not perfectly non rivalrous or non excludable but not rivalrous or excludable - in the middle
example is roads - tolls and congestion
what is the free rider problem
not being able to charge for a non excludable good because someone else will gain benefit from it without paying
why will private sector producers not make public goods
as they will not make a profit from the product
instead (non excludable)
they are provided by the government and financed through taxes
symmetric information
when all parties in a transaction have equal access to information about the product, service, or market.
buyers and sellers possess the same information, leading to transparent and well-informed decision-making
asymmetric information
when one party has more information than another during an economic transaction
the party with less information may end up making poor decisions due to incomplete data
how does adverse selection lead to a misallocation of resources
adverse selection occurs when information asymmetry leads to unfavourable selection.
In markets with asymmetric info, buyers will purchase lower quality goods because they cannot identify differences
How does moral hazard lead to misallocation of resources
moral hazard occurs when one party makes risky decisions because they are not fully responsible for their actions due to insurance/ contracts
How does market failure lead to misallocation of resources
Imperfect market information can lead to market failure, where resources are allocated inefficiently.
Market failure occurs when buyers and sellers make suboptimal decisions due to information gaps, resulting in misallocation of resources
how does the role of the government and regulation lead to misallocation of resources
Governments often implement regulations and disclosure requirements to mitigate the impact of information asymmetry.
These measures aim to provide consumers with better information and promote transparency in markets.
