ECO-231: Chapter 4: Market Failures Caused by Externalities and Asymmetric Information

Which term describes the inability of a market to bring about the allocation of resources that best satisfies the wants of society?

Market failure

___ is defined as the difference between the maximum price a consumer is willing to pay for a product and the actual price.

Consumer surplus

The area depicted below the demand curve and above the market price is known as ______.

consumer surplus

Consumer surplus and price are _____ related.

inversely

What is the difference between the actual price a seller receives and the minimum acceptable price?

Producer surplus

Which of the following are signs of a market failure?

Underallocation of resources
Overallocation of resources

Consumer surplus is the difference between the ___ price a consumer is willing to pay for a product and the price paid.

maximum

The seller's minimum acceptable price at each unit of the product forms a point on the curve, also known as the marginal cost curve. (Remember to type only one word in the blank.)

supply

Consumer surplus can be illustrated as the area _____ the demand curve and ______ the market price.

below; above

For a given supply curve, how do higher prices affect producer surplus?

They increase it.

Is there a relation between consumer surplus and price?

Yes, they are inversely related

There is a(n) (positive/negative) relationship between equilibrium price and the amount of producer surplus.

positive or direct

_ surplus is the difference between the actual price a seller receives and the minimum acceptable price.

Producer or Supplier

True or false: Markets that have downward-sloping demand curves and upward-sloping supply curves yield consumer and producer surplus.

True

Which curve shows the seller's minimum acceptable price for each unit of the product?

Supply curve

Economic (one word) is achieved at the equilibrium quantity.

efficiency

Which of the following reduces producer surplus?

Lower prices

What kind of relationship exists between equilibrium price and the amount of producer surplus?

Positive

What is achieved when competition forces producers to minimize the per-unit cost of the output they produce?

Productive efficiency

All markets that have downward-sloping demand curves and upward-sloping supply curves yield and surplus. (Remember to type only one word per blank.)

Blank 1: buyer or consumer
Blank 2: seller, producer, or supplier

A form of economic efficiency called _ is achieved when resources are directed toward their highest-valued use. (Enter one word in each blank.)

Blank 1: allocative
Blank 2: efficiency

Which of the following are achieved at the equilibrium quantity of a good or service?

Allocative efficiency
Productive efficiency

A form of economic efficiency called efficiency is achieved when the quantity of output at equilibrium is produced.

allocative

Productive efficiency is achieved when production costs are _____.

minimized

True or false: At the equilibrium output, where the demand and supply curves intersect, marginal benefit equals marginal cost.

True

When is allocative efficiency of a product achieved?

When the correct quantity of the product is produced relative to other goods and services

What do points on the demand curve represent?

marginal benefit

The intersection of the demand and supply curves at the equilibrium output indicates that ______.

marginal benefit equals marginal cost

A form of economic efficiency called Blank 1, efficiency is achieved when the quantity of output at equilibrium is produced.

allocative

Allocative efficiency occurs at quantity levels where the combined consumer and producer surplus is ______.

maximized

Points on the curve represent marginal cost.

supply

In competitive markets where demand curves reflect buyers' full willingness to pay and supply curves reflect all the costs facing sellers, what is maximized when output equals the equilibrium quantity?

The sum of consumer and producer surplus

Which of the following refers to reductions of combined consumer and producer surplus associated with the underproduction or overproduction of a good or service?

Deadweight loss

What is achieved when output is produced at the point at which maximum willingness to pay exactly equals the minimum acceptable price?

Allocative efficiency

A deadweight loss is also known as ______.

an efficiency loss

True or false: Competitive markets produce equilibrium prices and quantities that minimize the sum of consumer and producer surplus.

False
They maximize the sum of consumer and producer surplus.

A(n) (Enter one word) is a cost or a benefit accruing to an individual or group, a third party, that is external to a market transaction

externality

True or false: Efficiency losses are reductions of combined consumer and producer surplus associated with both underproduction and overproduction of a product.

True

If a market transaction imposes an uncompensated cost on a third party not directly involved in the transaction, the transaction results in a market failure known as a ______.

negative externality

The size of the deadweight loss will get smaller when output is increased and ______.

the maximum willingness to pay exceeds acceptable prices

A cost or a benefit accruing to an individual or group that is external to a market transaction is known as a(n) ______.

externality

A market failure that occurs when a third party to a transaction experiences uncompensated costs is called a(n) externality, or spillover cost.

negative

When a producer's supply curve is to the right of (or below) the total-cost supply curve, this represents the fact that its ______.

supply curve does not capture all the costs legitimately associated with the production of its goods

A polluting producer's supply curve lies farther to the than it does when the firm bears the full costs of production.

right

What kind of market situation results in equilibrium output being larger than optimal output, leading to an overallocation of resources?

Negative externalities

Which of the following could give rise to a negative externality?

A coal generated power plant

Which of the following results in an overallocation of resources to the production of a good or service?

Negative externality

As a result of negative externalities that are imposed by producers, costs are transferred to society and therefore firms incur ______ production costs and have supply curves that are ______ the full cost associated with producing their goods.

lower; below

Why does a firm's supply curve shift to the right when negative externalities are present?

The firm is not paying the full cost of production.

A negative externality results when there is an ______ of resources to the production of a good and too ______ units are produced.

overallocation; many

A person who receives benefits from a market transaction without having to pay for them is called a(n) rider.

free

Negative externalities (or spillover costs) result in a(n) ______ of resources to the production of the good.

overallocation

How do positive externalities affect demand curves?

Demand curves shift to the left.

People who receive the benefits from a good without having to pay for it are known as ______.

free riders

Which of the following markets are more likely to experience positive externalities?

Immunizations
Education

When positive externalities exist, demand curves fail to reflect the willingness to pay of the people who receive the positive externality, resulting in products being ______.

underproduced

n the figure, which of the following statements concerning positive externalities that accrue to society are correct?

The optimal output point is on market demand curve Dt.
The equilibrium output point is on market demand curve D.

The ______ curve for positive externalities reflects the benefit to the individuals who pay for the product.

market demand

When positive externalities occur, the market demand curve lies to the ______ the total-benefits demand curve.

left of (below)

Vaccinations against common diseases are an example of a ______ externality.

positive

Some individuals do not directly consume a product but accrue indirect benefits from others who do consume the product. As a result, there is a(n) ______.

underallocation of resources to the beneficial product

Which of the following are solutions that governments use to counter overproduction caused by negative externalities?

Pigovian taxes
Direct controls

In the figure, which of the following statements concerning positive externalities are correct?

Quantity point Qe represents the equilibrium output point.
Quantity point Qo represents the optimal output point.

The market demand curve for positive externalities reflects ______.

only the benefits to those who pay for and use the product

The government can correct for a situation in which negative externalities result in the overallocation of resources by using which of the following types of interventions?

Pigovian taxes
Direct controls

True or false: When positive externalities occur, the market demand curve lies to the right of the total-benefits demand curve.

False

In which situation are governments likely to use subsidies or government provision to achieve economic efficiency?

When positive externalities cause underproduction

The result of positive externalities is that the market produces too ______ units of a product that could benefit society, resulting in producers ______ resources to that product.

few; underallocating

Pigovian taxes and direct controls are two government solutions for which market situation?

Negative externalities

In the figure, which of the following statements concerning positive externalities that accrue to society are correct?

The optimal output point is on market demand curve Dt.
The equilibrium output point is on market demand curve D.

Solar panels provide a benefit those who buy them by reducing their electricity bill, but they also benefit society as a whole by reducing pollution and resource consumption. Because producers calculate demand based on actual purchases rather than total benefit, solar panels are underproduced. Which types of government intervention could be used to counter this situation?

Subsidies
Government provision

Which of the following is a common remedy when externalities affect large numbers of people or community interests are at stake?

Government intervention

Which government interventions can be used to counter underproduction caused by positive externalities?

Subsidies
Government provision

Legislation limiting specific activities is the most direct method of addressing which market situation?

Negative externalities

Which type of intervention has the government primarily used to discourage or limit harmful air pollution?

Direct controls

Direct controls the marginal cost of production because firms must operate and maintain pollution control equipment.

raise

Which of the following are situations in which governments likely to intervene in markets?

When externalities affect large numbers of people
When community interests are at stake

A less-direct action than passing legislation to correct a negative externality is for the government to ______.

levy a specific tax on the producers of the related good

The direct way to reduce negative externalities from a certain activity is to ______.

pass legislation limiting that activity

Which of the following is a policy approach to negative externalities?

Levying taxes or charges on the related good

Which of the following are direct controls that have been used by the US government to address pollution?

Clean-water legislation
Emission standards
Toxic-waste laws

Direct controls on pollution raise the marginal cost of production because ______.

the firms must purchase, operate, and maintain pollution-control equipment

A specific tax applied to the producer of a good in order to correct a negative externality will cause what change to the market for that good?

Supply curve shifts left

What is the purpose of a Pigovian tax?

To discourage the production of a good that causes negative externalities

What can be expected to occur in the market when the government makes use of buyer subsidies to correct a positive externality?

The demand for the good causing the externality will rise, resulting in the demand curve shifting outward.

Which of the following are subsidies to consumers to correct for an underallocation of resources by producers?

A discount coupon to inoculate children against classic childhood diseases
A tax credit for purchasing an electric car

Another policy approach to externalities is for government to levy a tax or charge specifically on the related good.

negative

Government can correct the ______ of resources by subsidizing consumers of the product.

underallocation

What causes the shift in the supply curve for a firm targeted by a Pigovian tax?

An increase in marginal cost

Which type of government intervention is likely to result in the demand curve shifting to the right (outward)?

Subsidies to buyers

To encourage consumers to buy more energy-efficient appliances, the government offers cash rebates to consumers who purchase products that have received Energy Star certification. This is an example of which type of government intervention?

Subsidies to buyers

True or false: Government could correct the overallocation of resources by subsidizing consumers of the product.

False

Which of the following are the effects of a subsidy to producers?

The quantity of the product increases to the economically optimal quantity, eliminating the underallocation of resources.
The supply curve shifts to the right because of an increase in supply.
The subsidy reduces the marginal cost of producing the good.

Government subsidies decrease producers' costs, shifting the supply curve to the ______ and correcting the ______ of resources by producers.

right; underallocation

True or false: A subsidy to a producer is a payment from the government to decrease the producers' cost to encourage more supply of a product beneficial to society.

True

To encourage the development of beneficial technologies, the government provides direct payments to independent research laboratories. This is an example of which type of government intervention?

Subsidies to producers

Which type of government intervention seeks to increase the supply of a beneficial good?

Subsidies to producers

_____ provides goods to correct a positive externality where positive externalities are extremely large.

The government

A(n) to a producer is a payment from the government to decrease a producer's cost in order to encourage more output of a product deemed beneficial to society. (Remember to type only one word in the blank.)

subsidy

A government provision is a good or service provided _______ in order to correct for very large _______ externalities.

for free to everyone; positive