Key Economic Terms and Concepts

Coase Theorem

theory that states private parties can solve the issues created by externalities on their own without government intervention

Free-Rider Problem

because people know they can benefit from public goods without paying, government ends up providing public goods

Gini Coefficient

a measure of income inequality that ranges from 0 to 1; a value of 1 would represent all income going to one family, whereas a value of 0 would represent all families receiving the same amount of income

Lorenz Curve

curve that shows how much of a country's total income is earned by the number of households

Lump-Sum Tax

a fixed tax on producers regardless of the amount produced

Marginal Social Benefit (MSB)

the benefits that accrue to society when consuming a product; MPB + MEB = MSB

Marginal Social Cost (MSC)

the costs that incurred to society when an additional unit is produced; MPC + MEC = MSC

Negative Externality

when a third party outside of a market incurs some of the cost of producing a product. It causes the market to produce too much of the good from society's point of view as MSC > MPC

Per-Unit Subsidy

a payment to producers from the government for each additional unit produced; a solution for positive externalities

Per-Unit Tax

a tax on producers for each additional unit produced, adding to the marginal cost of production; a solution for negative externalities

Positive Externality

the production or consumption of a good or service that creates benefits for third parties not involved in the transaction. It causes the market to produce too little of the product from society's point of view as MPB < MSB

Private Goods

goods that are exclusive and rival in consumption

Progressive Tax

tax that results in higher tax rates as income increases

Proportional Tax

tax that imposes the tax rates on everyone regardless of income

Public Goods

goods that are nonexclusive and nonrival, as one person's consumption of a public good does not exclude others from benefiting from it, like national defense.

Regressive Tax

tax where the tax burden falls as income rises

MSB = MSC

The Allocatively Efficient Quantity, considering externalities: If MSB > MPB, it's a positive externality. If MSC > MPC, it's a negative externality.

MPB + MEB = MSB

Formula for calculating Marginal Social Benefit

MPC + MEC = MSC

Formula for calculating Marginal Social Cost