1.3 Market failure

• What is market failure?

  Occurs when the free market mechanism doesn't lead to resources being allocated optimally
• What are types of market failure?

  Externalities, Non-provision of public goods, Information gaps
• What are externalities?

  An effect on consuming or producing a good or service that is external (outside) to the market transaction and therefore not accounted for when the free market finds equilibrium
• What are private costs?

  Costs that impact the economic agents directly involved in the market transaction
• What are examples of a private cost on a producer?

  Wages rent, raw materials, energy
• What is an example of a private cost on a consumer?

  Price paid
• What are external costs?

  Costs that impact a third party who is not involved in the market transaction
• What are examples of a external cost on a producer?

  Air pollution, noise pollution
• What are examples of a external cost on a consumer?

  Passive smoking, overeating
• What is a social cost?

  Total costs involved in the market transaction
• What is the equation of social costs?

  Social costs = External costs + Private costs
• What are private benefits?

  Benefits that are received directly by the producer and consumer in a transaction
• What is an example of a private benefit for producers?

  Revenues received from the sale
• What is an example of a private benefit for consumers?

  Utility gained from consumption
• What are external benefits?

  Benefits to third parties
• What are examples of external benefits for producers?

  Individuals who have vaccinations to prevent the spread of disease, households with well-kept garden increasing the market value of neighbouring properties
• What is an example of a external benefit for consumers?

  A farmer who keeps bees to make honey
• What are social benefits?

  Total benefits involved in the market transaction
• What is the equation for social benefits?

  Social benefits= External benefits + Private benefits
• What are negative externalities?

  Negative impacts on a third party not involved in the transaction when producing or consuming a good or service
• What are examples of negative externalities of consumption?

  • Vehicle pollution
  • Air pollution
  • Noise pollution
  • Traffic congestion
  • Household waste
  • Litter
  • Obesity
• Why are there negative externalities of consumption?

  Overconsumption of demerit goods
• What are examples of negative externalities of production?

  • Air pollution from factories
  • Noise pollution
  • Industrial waste
  • Collapsing fish stocks
  • Methane emissions
• What are positive externalities?

  Benefits to third parties
• What should positive externalities be?

  Encouraged
• How can positive externalities be achieved?

  • Subsidies
  • Better information
• What are examples of positive externalities?

  • Vaccinations
  • Education
  • Walking
  • Building new airports
• What are private goods?

  Excludable and rivalrous
• What is an example of a private good?

  Ice cream
• What is a public good?

  Non - excludable and non - rivalrous
• What is an example of a public good?

  Street lights
• What is a quasi public good?

  A good with elements of both public and private goods
• What are examples of a quasi public good?

  • Tolls on a motorway
  • Public beaches
• What is information failure?

  Occurs when people have inaccurate or incomplete data and so potentially make the wrong choices or decisions
• What is symmetric information?

  Where both parties have the same information
• What is asymmetric information?

  Where one party has superior information compared to another
• What are risks / instances of information gaps?

  • Risks from using tanning salons
  • Addiction to painkillers
  • Gaining entry to elite degree courses
  • Complexity of pension schemes
  • Uncertainty of quality of second hand procust
  • Knowledge of the nutritional content of foods
  • Cowboy builders
  • Tourists Bazaars or buying and selling antiques
• What are examples of asymmetric information?

  • Housing market (Producer over consumer) 
  • Life insurance (Consumer over producer) 
  • Second-hand car sales (Producer over consumer) 
  • Financial services (Consumer over producer) 
  • High tech products (Producer over consumer) 
• What action can the government take to overcome asymmetric information?

  • Compulsory labelling on products
  • Unproved nutritional information
  • Hard-hitting anti-speeding advertising to reduce the number of road accidents
  • Campaigns to raise awareness of the risks of drink-driving or drug abuse
  • Campaigns on dangers of gambling addiction 
  • Performance league tables for schools
  • Consumer protection laws
  • Industry standards / guarantees for selling used products