Market failure and externalities

Question 1

What is the acronym for the function of prices

Answer 1

RISA

Question 2

What are the 4 functions of prices rising

Answer 2

• Ration resources by decreasing consumption
• Incentivise firms to increase output to maximise profit
• Signal excess demand and need for more resources
• Allocate resources efficiently

Question 3

What are the 4 functions of prices falling

Answer 3

• Ration resources by increasing consumption
• Incentivise firms to decrease output to maximise profit
• Signal excess supply and need for less resources
• Allocate resources efficiently

Question 4

What are the two characteristics of pure public goods?

Answer 4

• Non excludable
• Non rival

Question 5

What is non excludability (public good)?

Answer 5

No price can be charged for the good (does not exclude anyone)

Question 6

What are the two reasons why no price can be charged for a pure public good?

Answer 6

-The benefits of consuming the good cannot be confined to the individual which has paid
- There is no cost efficient way to price it (may be too expensive)

Question 7

What is non rival (public goods)

Answer 7

• The quantity of the good doesn’t diminish upon consumption

Question 8

Explain the free rider market failure with pure public goods

Answer 8

Where individuals have the incentive not to contribute anything to the provision of public goods and wait for others contributions and ‘free ride’

Question 9

What is the the characteristics of pure public goods which allows the free rider issue to occur?

Answer 9

Pure public goods are non excludable and non rival

Question 10

What could the free rider issue with pure public goods lead to if everyone in the market chooses to free ride?

Answer 10

May lead to a missing market

Question 11

What is a Quasi public good?

Answer 11

It is a public good which may display the characteristics of a private good ( be excludable and rivalry )

Question 12

Give an example of a Quasi public good

Answer 12

Roads
Excludable - (Congestion charge, tolls)
Rivalry - (Rush hour, consumption diminishes availability)

Question 13

What is a merit good?

Answer 13

Goods which are deemed to be more beneficial to consumers than they realise, which generate positive externalities in consumption

Question 14

Why can merit goods lead to market failure?

Answer 14

They are under produced and under consumed

Question 15

What is the reason why merit goods are under produced and under consumed?

Answer 15

Imperfect information

Question 16

What are 2 reasons for imperfect information

Answer 16

Information failure
Asymmetric information

Question 17

What is information failure?

Answer 17

Information not present, clear or consumers choose to ignore

Question 18

What is asymmetric information?

Answer 18

Information exists but is not shared equally between two parties

Question 19

Give 3 examples of a merit good

Answer 19

Healthcare
Education
Exercise

Question 20

Draw the diagram for merit goods

Answer 20

Question 21

What is a demerit good?

Answer 21

A good which is deemed more harmful to consumers that they realise which generate negative externalities in consumption

Question 22

Why do demerit goods lead to market failure?

Answer 22

They are overproduced and overconsumed

Question 23

Why are demerit goods overproduced and overconsumed?

Answer 23

Due to imperfect information

Question 24

Give 3 examples of demerit goods

Answer 24

Cigarettes, alcohol, gambling

Question 25

Draw the diagram for demerit goods

Answer 25

Question 26

What is a positive externality?

Answer 26

Benefit to third parties as a result of the actions of a separate agent

Question 27

What is a positive externality in consumption?

Answer 27

Benefits to third parties as a result of the actions of consumers

Question 28

What is the relationship between social benefit and private benefit for positive externalities in consumption ?

Answer 28

MSB > MPB

Question 29

Draw the diagram for positive externalities in consumption

Answer 29

Question 30

Give an example of a good or service which generates positive externalities in consumption

Answer 30

Education

Question 31

What is a positive externality in production?

Answer 31

A benefit to third parties as a result of the actions of producers

Question 32

Give an example of a positive externality in production

Answer 32

Training, R and D

Question 33

What is the relationship between social cost and private cost for positive externalities in production?

Answer 33

MPC > MSC

Question 34

Draw the diagram for positive externalities in production

Answer 34

Question 35

Why are resources allocated at the private optimum and not the social optimum for goods which generate externalities in production

Answer 35

Producers act within their own self interest

Question 36

Why are resources allocated at the private optimum and not the social optimum for goods which generate externalities in consumption

Answer 36

Consumers act within their own self interest

Question 37

What are negative externalities?

Answer 37

Costs on third parties as a result of the actions of a separate agent

Question 38

What is a negative externality in production

Answer 38

Cost to third parties as a result of the actions of producers

Question 39

Give 2 examples of negative externalities in production

Answer 39

Air pollution (From factory work) Resource depletion (From mining)

Question 40

What is the relationship between social cost and private cost for negative externalities in production

Answer 40

MSC > MPC

Question 41

Draw the diagram for negative externalities in production

Answer 41

Question 42

What do negative externalities in production lead to

Answer 42

Over production/consumption Misallocation of resources

Question 43

What is a negative externality in consumption

Answer 43

Cost to third parties as a result of the actions of consumers

Question 44

Give 2 examples of goods which generate negative externalities in consumption

Answer 44

Smoking Alcohol

Question 45

What is the relationship between social benefit and private benefit for negative externalities in consumption

Answer 45

MPB > MSB

Question 46

What do MSB and MPB represent diagrammatically

Answer 46

Demand

Question 47

What do MSC and MPC represent diagrammatically

Answer 47

Supply

Question 48

Are goods which generate positive externalities over or under consumed/produced ?

Answer 48

Under consumed/ produced

Question 49

Are goods which generate negative externalities over or under consumed/produced ?

Answer 49

Over consumed/produced

Question 50

Draw the diagram to show how a subsidy can be used to solve positive externality in consumption market failure

Answer 50

Question 51

Draw the diagram to show how indirect taxation can be used to solve negative externality in consumption market failure

Answer 51

Question 52

Draw the diagram to show how indirect taxation can be used to solve negative externality in production market failure

Answer 52

Question 53

Draw the diagram to show how a subsidy can be used to solve positive externality in production market failure

Answer 53

Question 54

What can be used to help solve positive externality market failure

Answer 54

Subsidies

Question 55

What can be used to help solve negative externality market failure

Answer 55

Taxation

Question 56

What is regulation in order to solve market failure?

Answer 56

It is a rule or law enacted by the government that must be followed by economic agents to encourage a change in behaviour

Question 57

What type of approach is legislation/regulation to solve market failure

Answer 57

Non - market based aproach

Question 58

Give one benefit of using legislation to solve market failure compared to a subsidy or tax?

Answer 58

It doesn't depend on the elasticity of the good or service

Question 59

Give examples of commands within regulation to solve market failure

Answer 59

Bans Age limits Compulsories Caps (maximum number available to purchase for example)

Question 60

What are the two factors which make up regulation

Answer 60

Command and control

Question 61

Give the two examples of controls within regulation to solve market failure

Answer 61

Enforcements Punishment

Question 62

What is the purpose of solving market failure?

Answer 62

To get to the socially optimum level of output and price (achieve allocative efficiency)

Question 63

Give 4 negatives of using regulation to solve market failure

Answer 63

Costly Difficult to set the correct regulations (too strict or too loose) Black markets arise Risk of government failure

Question 64

Draw the tax incidence diagram

Answer 64

Question 65

What is government failure

Answer 65

When the costs of government intervention within a market outweigh the benefits

Question 66

What is the result of government failure

Answer 66

A worsening of the allocation of scarce resources

Question 67

What are the 4 causes for government failure

Answer 67

Information failure Admin & enforcement costs too high Regulatory capture Unintended consequences

Question 68

What is information failure which leads to government failure

Answer 68

Policymakers not having full information especially when it comes to valuing externalities

Question 69

Give 3 examples of policies which fall under high admin and enforcement costs as a cause of government failure

Answer 69

Regulation Subsidies State provision

Question 70

Give examples of unintended consequences which lead to government failure

Answer 70

Black markets arising Impact on the poor (Tax) Firms dependent on subsidies

Question 71

What is regulatory capture

Answer 71

When the interests of society are overlooked for the interest of CEOs and managers

Question 72

When can regulatory capture occur

Answer 72

When regulating monopoly power (Monopolies good for CEOs and bosses but not for consumers)

Question 73

What is the law of unintended consequences

Answer 73

Actions of people, especially of government, always have effects that are unanticipated or unintended.

Question 74

Explain the idea of tragedy of the commons

Answer 74

The tragedy of the commons is a concept which states that if many people enjoy unfettered access to a finite, valuable resource, such as a pasture, they will tend to overuse or exploit it and may end up destroying its value altogether.