Market Failure: Public Goods
Market Failure: Public Goods
Course Information
Course Title: ECO 2023: Introductory Microeconomics
Instructor: Viviana Rodriguez
Term: Fall 2025
Prologue
Causes of Market Failure
List of Causes:
Absence of property rights.
Externalities.
Public goods (discussed today).
Market power (e.g., monopoly - discussed last week).
5. Asymmetric information.
Comparison of Goods
Private Good: Example - Groceries
Public Good: Example - Parks
Key Questions:
Q1: Who pays for the good?
- Q2: Who benefits from the good?
Excludability
Definition: The extent to which a consumer can restrict others from using a good.
Types of Excludability:
Excludable: Access to the benefits of a good is restricted to those who pay for it.
Examples: Groceries, apartments, vehicles.
Non-Excludable: Anyone can access the benefits of a good, regardless of payment.
- Examples: Parks, national defense, sunshine.
Excludability Classification
Examples by Category:
Podcast:
Answer: Non-excludable.
Phone:
Answer: Excludable.
Rodents:
Answer: Excludable.
Clean Air:
Answer: Non-excludable.
Beach:
- Answer: Depends on context; can be both excludable or non-excludable.
Rivalry
Definition: Degree to which consumption by one person reduces the ability of others to consume the same good.
Types of Rivalry:
Rival:
Characteristics:
Consumption by one person prevents others from consuming the good.
Consumption by one person diminishes the value of the good for others.
Examples: Lunch, toothbrush, laptop.
Non-Rival: Many people can consume the good simultaneously without diminishing its value.
- Examples: Lighthouses, scenic views, knowledge.
Rivalry Classification
Examples by Category:
Podcast:
Answer: Non-rival.
Phone:
Answer: Rival.
Rodents:
Answer: Rival.
Clean Air:
Answer: Non-rival.
Beach:
- Answer: Rival.
Types of Goods
Classification by Excludability and Rivalry:
Non-Excludable and Rival:
Common Resource
Non-Excludable and Non-Rival:
Public Good
Excludable and Rival:
Private Good
Excludable and Non-Rival:
- Club Good
Private Goods
Property Rights: Well-defined property rights mean consumers pay all costs and experience all benefits at the margin.
Characteristics:
Most consumer products are private goods.
Examples: Jeans, watches, groceries, automobiles, notebooks, headphones, vitamins, toothbrushes, houses.
- Market Behavior: Usually provided by firms in a competitive market setting. Competitive markets without externalities allocate private goods efficiently.
Club Goods
Definition: Property rights are not well-defined, leading consumers to pay to "join the club" but not necessarily for the marginal costs of using the good thereafter.
Examples: Cable, satellite TV, Netflix, Hulu, HBO, Spotify Premium, country clubs, gyms.
Market Behavior: Often provided by firms rather than governments. Providers usually have market power (e.g., Comcast).
Economic Dynamics:
The fixed cost of network infrastructure is high, but the marginal cost of adding new subscriptions is low.
- Firms set price where Marginal Value (MV) > Marginal Cost (MC) leading to artificial scarcity and inefficiency.
Common-Resource Goods
Definition: Property rights are not well-defined; consumers experience all marginal benefits without paying all marginal costs.
Characteristics:
Some common resources are prone to overextraction (e.g., fish, deer or elk on public land, hors d'oeuvres at a party, booze at an open bar).
Others are prone to congestion or pollution (e.g., roads, clean water, national parks, dorm rooms).
Market Issues:
Unregulated markets often fail to manage common resources efficiently due to rivalry creating urgency among users to extract resources before others.
- Non-excludability makes maintenance unattractive to users, leading to overuse and neglect.
Public Goods
Definition: Property rights not well-defined; consumers experience all marginal benefits but do not pay all marginal costs.
Examples:
Governments usually provide public goods, which can include national defense, legal systems, flood control dams, autopsies, lighthouses, official statistics, fire protection.
Other examples: Clean air, open-source software, knowledge, etc.
Market Dynamics: Markets for public goods do not exist since providing them is not profitable for firms and often too costly for individuals because exclusion is not feasible.
- This leads to a situation of too few public goods being provided, resulting in inefficiency.
# Collective Action Problems
Prisoner's Dilemma
- Concept: (Cooperate, Cooperate) usually Pareto dominates (Defect, Defect), but (Defect, Defect) often stands as the Nash equilibrium.
Free-Rider Problem
Example - Streetlight Installation:
Scenario: A streetlight costs $20 to install. If the cost exceeds the willingness to pay of each neighbor, no one will install it alone.
Marginal Social Benefit Calculation:
Max WTP:
Darrell: $9.00
Zhang: $9.00
Amani: $8.00
Ivan: $8.00
Saoirse: $6.00
Lucy: $5.00
Ibrahim: $4.00
Maria: $2.00
- Total Marginal Social Benefit: $51, which exceeds the streetlight cost of $20, suggesting it is efficient to install the light.
Group Project Example
Game Matrix:
Two Students:
Payoffs (Associating Slack Off/Contribute):
Student 1: 3 (Contributes) or -2 (Slacks Off)
Student 2: 1 (Contributes) or -3 (Slacks Off)
- Equilibrium Outcome: Both students may slack off.
Unions and Free-Rider Problem
Mechanism: Unions utilize dues from members to fund collective bargaining efforts.
Outcome: A better collective bargaining agreement (CBA) leads to higher compensation and safer working conditions.
- Legal Implications: CBAs cannot exclude non-union members, leading unions to charge "fair-share" dues to non-members to combat the free-rider problem.
Impacts of Policy Changes
Some states implemented "right-to-work" laws that prevent unions from collecting fair-share dues.
- The Supreme Court's decision in Janus v. AFSCME prohibits public-sector unions from collecting fair-share dues, reintroducing the free-rider problem.
Tragedy of the Commons
Contextual Example - Aquifers:
Issue: Many farmers share a single aquifer in California without regulation leading to undefined property rights.
Droughts: Since 2000, several severe droughts have pressed farmers reliant on groundwater as a substitute for rainwater.
- Incentives: While farmers recognize that collective reduction of water usage could increase profits, the individual incentives push them to continue pumping water from the aquifer.
Solutions to the Tragedy of the Commons
Agreements: Difficult to enforce agreements to cut back water consumption.
Coase Theorem: Requires property rights and low transaction costs, neither of which exist.
3. Regulation or Pigouvian taxes: Potential solutions, though they require a costly monitoring system.
Climate Change Example
Collaboration between US and China: Both countries could reduce climate change impacts by restricting carbon emissions.
Current Equilibrium: (Ignore, Ignore).
- Incentive: How to shift equilibrium to (Restrict, Restrict)?
Collective Action Problem Solutions
Assign Property Rights: Establish private property, enforceable contracts for Coase theorem conditions, etc.
Pigouvian Taxes/Subsidies: Examples include water pricing.
3. Regulation: Create anti-littering laws, individual fishing quotas, etc.
Midterm Exam Information
Topics Covered:
Policy Levers: Taxes & Subsidies
Policy Levers: Price Controls
How Economists Learn from Data
Market Failure: Externalities and Public Goods
Game Theory (refer to Chapters 5, 6, 7, & 13)
Midterm Structure:
Format: Multiple Choice
Questions: 50 (Best 40 will be graded)
Scoring: 1 point per question
- Materials: No. 2 pencil, basic or scientific calculator (no graphing or programming capabilities), nothing else.
Midterm Preparation Resources
Lecture slides
Assignment 2 solutions (to be posted upon submission)
Office hours & Supplemental Instruction sessions with Camila