Chapter 5: Equity & Efficiency Flashcards
What are the 8 resource allocation methods?
- market price
- command system
- Majority rule
- Contest
- First come, first served
- Lottery
- Personal characteristics
- force
Market Price
○ Allocates scarce resources towards those who are willing & able to pay the price to get a resource
○ 2 kinds of people decide not to pay market price - (1) those who can afford to pay but choose not to buy & (2) too poor & cant afford to buy
Majority Rule
○ A majority of voters choose
○ E.g. used to elect government officials that make decisions about allocating resources such as tax & health care
○ Works well when decisions affect large # of people & self-interest in suppressed in a way so that resources are used effectively
Command System
○ Allocates resources by the order (command) of someone in authority
○ Canadian economy use sx extensively inside firms & government departments
E.g. At job, someone tells you what to do, labour allocated to specific tasks by command
○ Works well in orgs w. clear lines of authority & responsibly & where it is easy to monitor activities
Works badly for large scale activities
Contest
○ Allocates resources to winner
○ E.g. Tennis players compete against one another & winner gets a pay-off
First come, first served
○ Allocates based on those who wait in line first
E.g. restaurant seating, pool reservation, etc.
Lottery
Allocates to those who pick the winning #, draw the lucky cards, or come up lucky on some other gaming sx
Personal characteristics as an allocation method
people w/ the right characteristics get the resources
E.g. choose marriage partner on the basis of personal characteristics
Force as an allocation method
○ War - use of military force by one nation against another
○ Theft - taking w/o consent
○ Can play a positive role in resource allocation
○ Provides stats w/ method of transferring wealth from rich to the poor, & provides legal framework in which voluntary exchanges in markets takes place
○ State provides ultimate force that enable courts to do their work
Resources are allocated efficiently & in social interest when……
they are used in ways that people value most highly
occurs when the quantities produced are at the point on the PPF at which marginal benefit = marginal cost
what is the difference between price & value?
Value is what we get, price is what we pay
Marginal benefit measured by maximum price willing to pay for another unit
Willingness to pay determines demand - demand curve is a marginal benefit curve
What is the difference between individual & market demand?
- Individual demand - relationship between the price of a good & quantity demanded by one person
- Market Demand - relationship between the price of a good & the quantity demanded by all buyers
○ Considered the marginal benefit curve for society (marginal
social benefit)
What is consumer surplus?
- When people buy something for less than it is worth to them, they receive a consumer surplus
excess benefit received from a good over the amount paid for it
Formula: marginal benefit of a good - its price/the quantity bought
How doe producers distinguish cost & price?
○ Cost - what’s given up when a good is produced
○ Price - received when good is sold
What is marginal cost of supply?
Marginal cost - cost of producing an additional unit
○ Minimum price that must be received to induce a firm to offer one more unit of a good for sale
○ Price determines supply - marginal cost curve
individual & market supply
- Individual Supply - relationship between the price of a good & quantity supplied by one producer
- Market Supply - relationship between the price of a good & quantity supplied by all producers
Producer Surplus
Producer surplus - excess of the amount received from the sale of a good over the cost of producing it
Calculate it as the price received - marginal cost (or minimum supply-price)/quantity sold
Is the Competitive Market Efficient?
Equilibrium in a competitive market occurs when the quantity demanded = the quantity supplied (at the intersection of the demand curve & supply curve)
Total surplus
sum of consumer surplus & producer surplus
When efficient quantity is produced, total surplus is maximized
Buyers & sellers acting in self-interest end up promoting the social interest
Market Failure
- Occurs when a market is inefficient
Too little (underproduction) or too much (overproduction) of an item produced
Sources of market failure
○ Price Regulation - price cap or price floor block price adjustments that balance quantity demanded & quantity supplied & lead to underproduction
§ Can also lead to underproduction
○ Taxes - increase prices paid by buyers & lower the price received by sellers (underproduction)
○ Subsidies - payments by the government to producers, decrease the prices paid by buyers, increase the prices received by sellers & lead to overproduction
○ Externalities - cost or benefit that affects someone other than the seller or buyer
○ Public good - good or service from which everyone benefits & no one can be excluded
○ Common resources - owned by non one but available to be used by everyone
○ Monopoly - firm is a sole provider; self-interest maximize profit & has no competitors
○ Transaction cost - costs of the service that enable a market to bring buyers & sellers together
§ E.g. when you buy a house you buy the services of an agent & lawyer to do the transaction
Is the Competitive Market Fair?
- Economists agree about efficiency
○ Agree it makes sense to make the economic pie as large as possible & produce it at the lowest cost
○ Don’t agree about equity - don’t agree about what are fair shares of economic pie for all the people who make it
How is fairness divided?
○ Its not fair if the result isn’t fair
○ Its nor fair if the rules aren’t fair
Its Not Fair if the Result Isn’t Fair
General idea: unfair if peoples incomes are too unequal
Concepts: Utilitarianism, big trade-off, theory of justice
