AP Micro - Unit 6

optimal amount of a public good

private costs vs. social costs

• private costs = firm’s costs to produce the good

• social costs = those costs + the effects of making that good (ex: pollution) (thus, tend to be higher)

  • The ideal point (A) has less produced (to reduce the impact of negative effects) with a higher price (to give firm more money to address effect)

information failures

• asymmetric exchange of info between buyer and seller

• Seller side

  • Licensing (yes, you are a dentist)

  • Weights and measures (ensures equal in all firms, no firm is selling less for same price)

• Buyer side

  • Moral Hazard Problem (recklessness bc you have insurance)

  • Adverse Selection (insuring more risky than safe people, example, smokers know they will die so they buy more life insurance and insurance companies allow it)

what creates deadweight loss?

• Per unit taxes

• Binding price controls

• Imperfect competition

• Externalities

• Asymmetric Information

• Insufficient public goods

allocative efficiency

MSB = MSC

externalities

• market failure (MSC > MPC)

  • requires gov. action

• Negative Externalities

  • external (spillover) cost (2nd hand smoking)

  • overproduction (want less of it)

• Positive Externalities

  • External (spillover) benefit (getting flu shot)

  • underproduction (want more of it)

negative production externality graph

negative consumption externality graph

correcting externalities

• individual bargaining, Coase Theorem (just asking the smoker to stop)

• liability rules and lawsuits

  • regulations on pollution

• Government Intervention

  • direct control

  • taxes, subsidies

  • environmental regulation

  • assigned property rights

• Taxes/subsidies

  • negative extern: production = tax the product, consumption = tax the product

  • positive extern: production = sub. producer, consumer = sub. consumer (ex, free vaccines)

private good

• rival

• excludable (ex, you cannot enter private property)

• demand curve = horizontal summation

public good

• non-rivals

• non-excludable

• demand curve = vertical summation

• supplied by gov

• gov estimates demand

• compare MSB and MSC

• “Tragedy of the Commons” = People tend to treat public goods worse (litter in public parks)

Free rider problem

• Issue with non-exclusion with public goods

• If the gov. decides to build a 5th park, and Adam doesn’t feel as if it is necessary, he won’t finance it, but Bob will. As a result, gov. still receives funding and builds the park. Adam can still use it, but didn’t contribute to it, and thus he is a free rider

effects of gov. intervention in diff. market models

• review unit 2 effects of taxes in subsidies on AVC, ATC, MC, AFC

• Taxes and Elasticity

  • More elastic curves = more DWL

  • More inelastic curves = pays more of the tax (tax incidence)

gov. regulation of monopolies

• anti-trust acts (clayton, sherman acts)

  • Ignores short-lived monopolies like a pharmaceutical and their new drug

  • regulates natural monopolies

• Gov. set prices

  • Socially optimal price (P = MC)

  • Fair-return price (P = ATC) (zero econ. profit, normal profit only)

lorenz curve

• graphs inequality

gini ratio

• (Area between diagonal and lorenz curve) / (Total area beneath diagonal)

effect of gov. redistribution of cash and non-cash transfers

tax structures

• measured as a percentage of income

• Progressive tax (wealthier = more)

• Regressive tax (poorer = more)

• Proportional tax (flat) (all pay same %)

causes of inequality

• Greater demand for highly skilled workers

• globalization

• higher tuition costs (see first point)

• decline in unions

• Less progressive tax structures

• Unequal distribution of wealth

• discrimination

poverty

• poverty line defines the minimum amount needed to afford food, clothing, shelter, and adequate transportation

• pov. rate is 10.5% in USA