ECON_7

7.1 Evaluating Public Policies

Learning Objective

  • Understand how to evaluate welfare and economic efficiency.

  • Example Policy Questions:

    • Should we raise the minimum wage?

    • Should carbon be taxed?

    • Should college be free?

    • Should cities require mask-wearing during airborne disease outbreaks?

    • Should the speed limit be higher?

    • Should we reduce trade barriers with China?

Positive and Normative Policy Analysis

  • Positive Analysis (Stage 1):

    • Focuses on what will happen with a policy.

    • Involves objective analysis using tools like the supply-and-demand framework.

    • Example: Analyzing the consequences of increasing minimum wage (e.g., number of people receiving raises, impact on employer profitability, job elimination).

  • Normative Analysis (Stage 2):

    • Focuses on what should happen; involves value judgments.

    • Requires assessing outcomes and weighing benefits against costs.

    • Discussion on minimum wage: should it be raised or not involves normative judgments regarding gains and losses across groups (workers, businesses).

7.2 Efficiency and Equity

Evaluating Policy Outcomes

  • Need for criteria to judge the impact of policies on welfare and prosperity.

  • Economic Efficiency:

    • More economic surplus generated is preferred: surplus = benefits − costs.

    • Efficient outcomes may not distribute benefits equally.

    • Example: Uber enhances economic surplus at the expense of taxi drivers.

Relationship between Efficiency and Equity

  • Enhancing economic efficiency doesn’t guarantee happiness for all.

  • Policy outcomes affect economic surplus differently across participants; some may benefit while others are harmed.

  • Compensation Mechanisms:

    • Possibility of compensating those harmed to ensure overall benefits.

7.3 Market Efficiency

Learning Objective

  • Assess the efficiency of markets as central organizing institutions.

  • Markets determine production patterns, income distributions, and pricing.

  • Comparison to centrally planned economies (e.g., Cuba, North Korea).

Market Responses to Key Questions

  1. Who Makes What?

    • Efficient production minimizes costs via self-interest dynamics.

    • Example: Allocating production between smaller farms and larger industrial operations.

  2. Who Gets What?

    • Efficient allocation maximizes benefits for consumers, assigning goods to individuals willing to pay the most.

    • Market dynamics ensure goods are distributed to those who value them most.

  3. How Much Gets Bought and Sold?

    • Rational Rule for Markets:

      • Produce until marginal benefit equals marginal cost for surplus maximization.

    • Equilibrium Quantity:

      • Achieved when supply equals demand, resulting in maximal economic surplus.

7.4 Market Failure and Deadweight Loss

Learning Objective

  • Understand costs associated with market failures.

  • Definitions:

    • Market Failure: Inefficiencies in market outcomes.

    • Deadweight Loss: Loss in economic surplus due to suboptimal production quantities.

Sources of Market Failure

  1. Market Power:

    • Reduced competition leads to higher prices and underproduction.

  2. Externalities:

    • Negative side effects (e.g., pollution) lead to overproduction of harmful goods.

  3. Information Problems:

    • Asymmetry affects buyer trust and market efficiency.

  4. Irrationality:

    • Poor decision-making leads to inefficient outcomes.

  5. Government Impediments:

    • Regulations and taxes can distort market equilibrium.

Measuring Deadweight Loss

  • Calculated as the difference between efficient and actual economic surplus; highlights loss due to deviations from efficient production levels.

7.5 Beyond Economic Efficiency

Learning Objective

  • Evaluate limitations of economic efficiency in policy decisions.

Critiques of Economic Efficiency

  1. Distributional Concerns:

    • Focus on efficiency may overlook fairness in the distribution of benefits.

  2. Willingness vs. Ability to Pay:

    • Willingness to pay can reflect access to resources rather than true marginal benefit.

  3. Process vs. Outcomes:

    • Ethical considerations around how decisions are made can be as important as the final outcomes.

Conclusion on Economic Efficiency

  • Employ economic efficiency as a tool, but complement with equity and ethical considerations in policy discussions.

7.6 Tying It Together

Case Study: Evaluating Uber's Impact

  • Positive Analysis:

    • Effects on employment and wages; increase in rides and decrease in wait times.

  • Normative Analysis:

    • Weighing economic surplus from ride-sharing against potential equity concerns for taxi drivers.

  • Policy Implications:

    • Continuous evaluation required to balance benefits and losses; different stakeholders may have varying perspectives on value judgments.

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