Economics 2

• Playgrounds, parks, and parades are often provided by governments, and people usually don't have to pay anything to enjoy them
• Goods without prices


  Don't easily fit into the kind of analysis we've practiced so far
• We've focused mainly on items that are allocated through markets, in which buyers pay for what they receive and sellers are paid for what they provide
• In these cases, prices guide the decisions of buyers and sellers, leading to an efficient allocation of resources
• But these clear market signals are absent when goods and services are available free of charge
• Without prices, private markets on their own cannot ensure that such goods are made available and used correctly for the maximum benefit of society as a whole
• This chapter examines these problems and shows that government policy can often fix the market failure and increase economic well-being
• This conclusion sheds light on one of the Ten Principles of Economics in Chapter 1: Governments can sometimes improve market outcomes
• Excludability


  If people can be prevented from using a good, it is excludable. If it is impossible to prevent people from using the good, it is not excludable
• Rivalry in consumption


  If one person's use of a unit of a good reduces another person's ability to use it, the good is rival in consumption. If one person's use does not diminish another person's use, the good is not rival in consumption
• Private goods


  Goods that are both excludable and rival in consumption
• Public goods


  Goods that are neither excludable nor rival in consumption
• Public goods


  • Tornado siren
  • National defense
• Common resources


  Goods that are rival in consumption but not excludable
• Common resources


  • Fish in the ocean
  • The environment
  • Congested nontoll roads
• Club goods


  Goods that are excludable but not rival in consumption
• Club goods


  • Satellite TV
  • Uncongested nontoll roads
• Whether goods are excludable or rival in consumption is often a matter of degree
• Because people cannot be prevented from using them, public goods and common resources are available to everyone free of charge
• When something of value has no price attached to it, externalities arise
• If a private individual were to provide a public good, such as a tornado siren, other people would be better off. They would receive a benefit without paying for it—a positive externality
• When one person uses a common resource like fish in the ocean, other people are worse off because there are fewer fish to catch, yet they are not compensated for their loss. This is an externality too, but a negative one
• Because of these external effects, private decisions about consumption and production can lead to an inefficient allocation of resources unless the government policy steps in to fix the problem
• Fireworks display


  • Not excludable: Anyone can look up at the sky and see it
  • Not rival in consumption: My joy at the sight of a chrysanthemum exploding above me doesn't diminish your pleasure at seeing it
• If Zoe, a Smalltown entrepreneur, decided to put on a fireworks display, she would have trouble selling tickets because potential customers would realize that they could see the fireworks without a ticket
• Free rider


  A person who receives the benefit of a good without paying for it
• Even though the fireworks display is socially desirable, it is not profitable, so Zoe makes the privately rational but socially inefficient decision not to put on the display
• The local government can sponsor a Fourth of July celebration. The town council can raise everyone's taxes by $2 and hire Zoe to produce the fireworks. Everyone in Smalltown is better off by $8—the $10 at which residents value the fireworks minus the $2 tax bill
• Many local governments in the United States pay for fireworks on the Fourth of July
• The government can remedy the free-rider problem. If the government decides that the total benefits of a public good exceed its costs, it can provide the public good, pay for it with tax revenue, and potentially make everyone better off
• National defense


  A classic example of a public good. Once a country has paid for a military to defend it, it is impossible to prevent a person in the country from enjoying the benefit of this defense. And when one person enjoys the benefit of national defense, she does not reduce the benefit to anyone else
• In 2020, the U.S. federal government spent a total of $886 billion on national defense, or $2,682 per person
• Even economists who advocate small government agree that national defense is a public good the government must provide
• Basic research


  Research that increases general knowledge, which is a public good. Once proven, the knowledge is not excludable and not rival in consumption
• Profit-seeking firms spend a lot on research to develop products they can patent and sell, but most don't spend much on basic research. Their incentive, instead, is to free ride on the general knowledge created by others
• The government tries to provide the public good of general knowledge in various ways, such as through government agencies that subsidize basic research
• Determining the appropriate level of government support for basic research is difficult because the benefits are hard to measure, and the members of Congress who appropriate funds usually don't have the expertise necessary to judge what lines of research are likely to produce the largest benefits
• Profit-seeking firms


  Spend a lot on research to develop products they can patent and sell, but most don't spend much on basic research
• Incentive of profit-seeking firms


  To free ride on the general knowledge created by others
• In the absence of any public policy, society would devote too few resources to creating knowledge