Market Failure

Question 1

Describe the types of market failure

Answer 1

• Externalities: An externality is the cost or benefit a third party recieves from an economic transaction outside of the market mechanism
• Under provision of public goods: Public goods are non-excludable and non-rival, and they are under provided in a free market because of the free rider problem
• Information gaps: it is assumed that consumers and producers have perfect information when making economic decisions.

Question 2

What can externalities cause

Answer 2

• Private costs: costs to the economic agents involved directly in the economic transaction, producers are concerned with private costs of production
• Social costs: Private costs plus external costs
• Private benefit: Consumers are concerned with the private benefit derived from the consumption of a good
  Social benefit: Private benefits plus external benefits

Question 3

State and explain government policies for negative externalities

Answer 3

• Indirect taxes: this is used to reduce the quantity of demerit goods consumed as it increases the price of the good.
• Subsidies: Encourage consumption of merit goods
• Regulation: to enforce less consumption of a good by putting in rules
• Provide the good directly: The government could provide public goods which are underprovided in the free market, education

Question 4

State and explain the characteristics of a public good

Answer 4

They are
- Non-excludable: By consuming the good someone else is not prevented from consuming the good
- Non-rival: By consuming the good the benefit other people get from the good odesnt diminish

Question 5

State and explain the characteristics of a private good

Answer 5

They are
- Excludable: By consuming the good someone else is prevented from consuming the good
- Rival: By consuming the good the benefit other people get from the good diminishes

Question 6

What are Quasi public goods

Answer 6

They have characteristics of both public and private goods (Roads)

Question 7

State the two types of information gaps

Answer 7

• Symmetric information: When consumers and producers have perfect market information
• Asymmetric information: Leads to market failure, when there is unequal knowledge between consumers and producers