Unit 6 - Market Failure and the Role of Government Guide

[[6.1 Socially Efficient and Inefficient Market Outcomes[[

• Socially efficiency is when resources are allocated effectively
• MSB=MSC !!
• Allocatively Efficient Points
  • Perfectly competitive market : S=D, MB=MC
  • Perfectly competitive firm : P=MC
  • Perfectly competitive labor market : W=MRP (total economic surplus : MSC=MSB)
• Causes of Market Failure
  • Market power (imperfectly competitive markets)
  • Asymmetric information (lack of info provided by buyers and sellers)
  • Positive and negative externalities
  • Insufficient production of public goods
• Government policies used to get rid of DWL
  • Taxes
  • Subsidies
  • Reguations
  • Public prodivions
• Market failure : exists when firms produce @ MPC=MPC, S=D
• The government tries to get them to produce @ MSC =MSB

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[[6.2: Externalities[[

• Externality : when external cost/benefit is placed on members of society who did not pay for them
• MSB does not equal MSC
• Negative externality : when someone uses a product, it decreases the benefit of others (ex. smoking), MSC > MPC (correct with per unit tax)

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• Positive externality : when one uses a product, others benefit  (ex. education) MSC < MPC (correct with subsidy)

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[[6.3: Public and Private Goods[[

• Rivalrous good : if someone consumers a product, others cannot
  • Rivalrous : food, shoes, etc
  • Nonrivalrous : national defense, fireworks, etc
  • Somewhere in middle : schools, roads, etc
• Excludable good : non payers can be prevented from enjoying the benefits
  • Excludable : food, school, etc
  • Nonexcludable : national defense, air, etc
• Public goods : underproduced due to freeloader problem
• Examples : national defense, law enforcement, etc
• Freeloader problem : people can enjoy the benefit of a good/service without paying
• Government will provide subsidies to producers
• Private goods : goods produced by private markets, can be excludable

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[[6.4: The Effects of Government Intervention in Different Market Structures[[

• Causes of inefficient markets
  • Market power
  • Externalities
  • Nonrival and nonexcludable goods (public goods)
• Forms of government intervention
  • Taxes
  • Subsidies
  • Price floors/ceilings
  • Regulation
• Per unit subsidy : gives benefits per unit
  • Perfect competition : MC, ATC, AVC decreases, price doesn’t change (price taker)
  • Monopolistic competition : MC, ATC, price decreases (price maker @ MR=MC)
• Lump sum subsidy : gives benefit no matter how many units
• Taxes will always shift supply curve to the left in long run, profits decrease
• Per unit tax : increase MC, ATC, and AVC
  • Perfect competition : MC, ATC, AVC increases, price doesn’t change (price taker)
  • Monopolistic competition : MC, ATC, price increases (price maker @ MR=MC)
• Lump sum tax : only increase ATC
• won’t change output level

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• Non price regulation : works like taxes, they ensure competition/environmental protection/health and safety
• Antitrust policy : promote competition and prevents monopolies
• Antitrust laws
  • Lawsuits
  • Price controls
  • Subsidies
• Price ceiling : sets minimum price
  • Perfect competition : causes shortage
  • Monopolistic competition : becomes MR curve, price and output decreases
• Price floor : sets maximum price
  • Perfect competition : leads to surplus
  • Monopsony : wages go up and workers go up

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[[6.5: Inequality[[

• Income distribution : measures % of income that goes to individuals in different percentiles/brackets

• In a system with perfectly equality : everyone would receive equal shares of income

• Income : wages, rent, interest, profit

• Lorenz curve : measures the distribution of income equality  (you want to be as close of possible to the perfect equality line as possible)

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• @@Gini coefficient@@ : A/(A+B)

  • Closer to 0, more equality
  • Closer to 1, the more inequality

• @@Causes of income inequality@@

  • Supply + demand in labor market
  • Human capital
  • Discrimination
  • Inheritance
  • Bargaining power
  • Etc

• @@Policies to address inequality@@

  • Taxes + transfers
  • Minimum wage laws
  • Anti-poverty program
  • Income protection program
  • Scholarships

• @@Taxes :@@

  • Proportional : everyone pays the same percentage of their income (no impact on income distribution)
  • Progressive : taxes are higher % on people earning a higher income (reduces income inequality)
  • Regressive : taxes are lower % on people earning a higher income (increases income inequality)

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