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A.P. Microeconomics. Warm Up : for each of the following scenarios identify and explain briefly which market failure is being described: An auto repair shop convinces you that you need a $2,000 valve job, when all you really need is an oil change.
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A.P. Microeconomics Warm Up:for each of the following scenarios identify and explain briefly which market failure is being described: An auto repair shop convinces you that you need a $2,000 valve job, when all you really need is an oil change. Everyone in the neighborhood would benefit if an empty lot were turned into a park, but no entrepreneur will come forward to finance the transformation. Someone who lives in an apartment building buys a Wayne Newton album and blasts it until 3am each night. The only two airlines flying directly from Buffalo to Albany make an agreement to raise their prices.
Market Failures • In a competitive market, the firms and the households determine the supply and demand of inputs and outputs; in other words, they determine the price and quantity of all. • However when the market cannot determine the terms of exchange – price, quantity, location, service, financing, etc. – and/or one party is not willing or able to pay the price, the market fails. • Thus there is a need and function for ____________________________. Government
Results of Externalities • Externalities: • A cost or benefit resulting from some activity or transaction that is imposed or bestowed on parties not involved with the activity/transaction Pollution is the classic example, but there are many others: noise, congestion, distaste
Results of Externalities • Ex) an economically successful business in production pollutes the land by seeping chemicals into the local water supply. • Who Pays the Price? • What should government do?
Social Costs • Since externalities are those costs not incurred by the buyer or the seller of a market transaction (the costs are incurred by the public), then social costs are equal to private costs and the value of the externalities. (SC = MC + externality) • Thus we can distinguish marginal private costs (MPC or MC) from marginal social costs knowing the MSC > MC (private) since marginal social costs incorporate marginal private costs. These distinctions will serve us well when we discuss the government, taxes and subsidies.
Social Costs • For example, social costs will equal private costs when government either ___________________ negative externalities or _________________________ positive externalities by the amounts of the externalities. • In this way, the government hopes to move the markets to some level of efficiency to compensate for market failure. Tax Subsidize
Social Costs • What is a tax? • What is a subsidy? Government charge on households & firms Government payment to households & firms
Need for Government • Market failure also refers to failure of the market mechanisms to achieve optimal or efficient outcomes. An efficient social outcome would be when _____________________________ (MSB) equals _________________________ (MSC). Therefore, market failure to produce efficient outcomes becomes a general basis for government intervention. A complete market failure to find MSB = MSC for certain goods is the case for a public good.For Example: Marginal Social Benefit Marginal Social Cost
Group Activity Recreate the 4 square for your groups market failure. NO notes!!! • Monopoly • Public Good • Imperfect Information • Externality If I choose your group’s poster to hang up, you will be exempt from the Chap 11 outline!! This will be graded and added to your homework grade!!
