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.