Principles of Economics - Market Failures

These flashcards cover key concepts related to market failures in economics, including externalities, public goods, asymmetric information, and the roles of government intervention.

What is market failure?

A situation in which a market left to itself does not produce the most efficient allocation of resources.

What are externalities?

Costs or benefits from an economic activity that affect third parties.

What can governments do to address negative externalities?

They may intervene to limit external damage through regulation and taxation.

What is the tragedy of the commons?

When no one can be excluded from accessing a good, it leads to overuse and depletion.

What are common goods?

Non-excludable and rival goods that suffer from the tragedy of the commons.

What are the two types of asymmetric information?

Hidden actions and hidden characteristics.

What is moral hazard?

The tendency of a person who is imperfectly monitored to engage in dishonest or undesirable behavior.

What is adverse selection?

A market outcome in which, because of asymmetric information, better quality commodities are driven out of the market.

What is signaling in the context of asymmetric information?

An action taken by an informed party to reveal private information to an uninformed party.

What is screening in the context of asymmetric information?

An action taken by an uninformed party to induce the informed party to reveal private information.

What distinguishes public goods?

They are characterized by being non-excludable and non-rival.

Why do governments provide public goods?

Because private businesses have no incentive to provide goods that cannot be excluded from use.

What happens when both sides of a transaction do not have the same information?

It can lead to market failures and inefficient outcomes.

What is an example of a positive externality?

Positive outcomes of activities like tree planting that absorb carbon dioxide.

What is an example of a negative externality?

Pollution caused by a factory that affects nearby residents.

How can information asymmetry impact market transactions?

It can lead to less efficient markets and can affect the pricing and availability of goods.

What roles can governments play in the market?

They can correct and compensate for market failures to improve welfare.