Y12 Booklet 3: Markets & Failure

Question 1

What is a luxury good?

Answer 1

When income rises, demand rises more than proportionately

Question 2

What is a normal good?

Answer 2

When income rises, demand rises proportionally

Question 3

What is an inferior good?

Answer 3

When income rises, demand falls

Question 4

What is excludability?

Answer 4

When someone can be prevented from benefitting from a good/service, e.g. paying for cinema tickets

Question 5

What is rivalry?

Answer 5

When consumption by one person impacts another person’s ability to gain utility from it, e.g. a box of chocolates

Question 6

What is a private good?

Answer 6

Both excludable and rivalrous

Question 7

What is a public good?

Answer 7

Both non-excludable and non-rivalrous

Question 8

What is a non-rejectable good?

Answer 8

A good which can not be turned down, e.g. a lighthouse

Question 9

What problem does non-excludability cause?

Answer 9

Free-rider Problem

Question 10

What is the Free-rider Problem?

Answer 10

If a good is non-excludable, a price can’t be charged for it. Therefore, as utility-maximisers, everyone expects a free ride since they don’t have to pay. Therefore, there is no profit incentive for suppliers, so these goods aren’t produced

Question 11

What is the marginal cost of non-rivalrous goods?

Answer 11

Zero

Question 12

What does marginal cost mean?

Answer 12

The cost difference of producing 1 additional unit

Question 13

What is a good which possesses some traits of a public good, but not all?

Answer 13

Quasi-public good / non-pure public good

Question 14

When does allocative efficiency occur, regarding marginal cost?

Answer 14

When Price = Marginal Cost

Question 15

When does a market fail?

Answer 15

When there is misallocation of resources (failing to reach allocative efficiency)

Question 16

What are the 3 functions of prices?

Answer 16

Signalling;
Incentive;
Rationing/Allocative

Question 17

What is the signalling function of prices?

Answer 17

Shows producers which goods consumers demand, encouraging firms to shift supply to minimise scarcities/surpluses

(Used by producers to increase/decrease supply to meet equilibrium)

Question 18

What is the incentive function of prices? What economies is this specific to?

Answer 18

Creates a greater profit incentive to supply for producers, when consumers’ wants and needs change

Specific to free markets since decision-making is decentralised

Question 19

What is the rationing/allocative function of prices?

Answer 19

Decides how scarce resources are allocated, and acts as a barrier so only the most willing/able consumers can purchase the good

Question 20

What is the price mechanism? What are its conclusions?

Answer 20

How consumer/producer interactivity determines the price and therefore allocation of resources

1) part of a successful free-market, leads to equilibrium
2) promotes consumer sovereignty

Question 21

What is consumer sovereignty?

Answer 21

A consumer’s power to choose what/how much is produced by purchasing certain goods at certain prices

Question 22

What is a missing market? (Complete Market Failure)

Answer 22

When incentive function of prices fails and there are no producers for a good

Question 23

What is a partial market failure?

Answer 23

When a market does provide a good, but in an allocatively inefficient quantity

Question 24

What are 3 causes of market failure?

Answer 24

• Merit & Demerit goods
• Information Failure
• Externalities

Question 25

What is the Tragedy of the Commons?

Answer 25

When an individual acts in a way which maximises their own utility in the short-term, at the cost of society in the long-term, thus depleting a resource (e.g. cows grazing on a village common)

Question 26

Why doesn't the Tragedy of Commons occur for public goods?

Answer 26

Because they are non-rivalrous, so additional/over-consumption doesn't affect available utility of others, so the good can't be depleted

Question 27

What is a merit good?

Answer 27

When a good is more beneficial to a consumer than it is believed to be

Question 28

What is a demerit good?

Answer 28

When a good is more harmful to a consumer than it is believed to be

Question 29

How are merit goods consumed in free markets? Examples?

Answer 29

Underconsumed, e.g. education, healthy food, insurance

Question 30

How are demerit goods consumed in free markets? Examples?

Answer 30

Overconsumed, e.g. cigarettes, fast food, alcohol

Question 31

What type of statement is a merit/demerit good? Why?

Answer 31

Normative; requires a value judgement

Question 32

What are Information Failures?

Answer 32

When an economic agent does not have/understand/act on information fully, and so fails to maximise their own utility in the long-term due to their own perceptions

Question 33

What is a search good?

Answer 33

goods that a consumer can assess the qualities of without trying the good e.g. petrol, clothes, stationary

Question 34

What is an experience good?

Answer 34

goods that a consumer must try out to assess the qualities of e.g. houses, food, cars (to a non-expert)

Question 35

What is asymmetric information in a market? What is this an example of?

Answer 35

When one of the 2 parties (buyer and seller) know more about the good than the other information failure

Question 36

What is the graph for underconsumption of merit goods?

Answer 36

Question 37

What is the graph for overconsumption of demerit goods?

Answer 37