Market Failure

Question 1

Market failure

Answer 1

When the price mechanism fails to allocate resources effectively and society suffers

Question 2

Externality

Answer 2

The effect on a non participating third party

Question 3

Positive externality

Answer 3

Creates positive benefits to a third part like:

Producing military equipment improves technology in society
Someone training as a doctor as they benefit people in society once trained

Question 4

Negative externality

Answer 4

Creates negative benefits to a third party like:

Steel factory produces pollution harmful to society
A chocolate bar if the wrapper is dropped on the street as litter

Question 5

Social cost

Answer 5

Full cost to society of a good, private cost + external cost

Question 6

Social benefit

Answer 6

Full benefit for society from the good, private benefit + external benefit

Question 7

What does it mean if MPC and MSC curves are parallel

Answer 7

The external costs per unit produced are constant

Question 8

What does it mean if MPC and MSC curves diverge

Answer 8

External costs increase per unit increase with output like pollution

Question 9

What is the equilibrium point

Answer 9

Marginal private costs equal marginal private benefits

Question 10

What is the social optimum point

Answer 10

Marginal social costs equals marginal social benefits

Question 11

Overproduction

Answer 11

More is produced and sold at a lower level than is desirable for society , marginal social cost is greater than marginal social benefit which creates a welfare loss.

Question 12

Underconsumption

Answer 12

Less is consumed and sold at a lower price than is desirable for society, marginal social benefit is greater than marginal social cost which creates potential welfare gain.

Question 13

Public goods two characteristics

Answer 13

Non excludable - people can’t be stopped from using the good even if they haven’t payed

Non rivalry - one person benefiting from the good doesn’t stop another person, zero marginal cost

Question 14

Private good

Answer 14

Excludable and exhibit rivalry, most goods are this

Question 15

Quasi public good

Answer 15

These are goods that exhibit the characteristics of a public good, roads as they can be toll roads or become congested

Question 16

Free rider problem

Answer 16

• impossible to stop people benefiting from a from a public good even if they haven’t paid for it
• price mechanism cannot work if there are free riders as some consumers won’t pay others will
• producers will overvalue public goods in order to increase price but consumers will undervalue to decrease price, firms will be reluctant to supply public goods

Question 17

Tragedy of the commons

Answer 17

People acting in their own best interest will overuse and deplete a common resource, causes of environmental Market failure.

Question 18

How does imperfect information affect consumption of goods

Answer 18

Merit goods are under consumed as people won’t know the full personal benefit and demerit goods over-consumed as people don’t know the harm of demerit goods.

Question 19

How does imperfect information affect provision of goods

Answer 19

Merit goods will be under provided and demerit goods over provided like a doctor using their greater knowledge of medicine to sell more expensive care to clients

Question 20

Three Types of Market failure

Answer 20

• Goods have negative and positive externalities which leads them to being over and underproduced
• Under provision of public goods as these aren’t profitable
• Information gaps mean economic agents don’t always make rational decisions

Question 21

Private costs/benefits

Answer 21

The cost/benefit to the individual taking part in the economic activity

Question 22

External costs/benefits

Answer 22

The cost/benefit to the non participating third party

Question 23

What is MPB/MPC

Answer 23

The extra benefit or cost to the individual from consuming one extra unit of a good

Question 24

What is MSB/MSC

Answer 24

The extra benefit or cost to society from consuming one extra unit of a good

Question 25

Which curve is costs and which benefits

Answer 25

costs = supply
benefits = demand

Question 26

Which way does the triangle point in negative externalities

Answer 26

left

Question 27

For negative externality graph which curve gets two

Answer 27

cost

Question 28

For positive externality graph which curve gets two

Answer 28

benefit

Question 29

Which way does the positive externality triangle point

Answer 29

right

Question 30

What is the shaded triangle in the externality diagrams

Answer 30

It is the welfare loss that is either under or overproduction

Question 31

Symmetric Information

Answer 31

When buyers and sellers have equal or perfect information

Question 32

Asymmetric information

Answer 32

One party usually the seller has superior knowledge than the other and can use this to their advantage

Question 33

Examples of information gaps

Answer 33

Pensions and drugs, false advertising

Question 34

Why do information gaps cause market failure

Answer 34

people lack the information to buy the products which will most maximise their welfare, prices will also higher