EYE ONS

2. Does health care need fixing? • The United States has the world’s most costly health care, but 47 million Americans have no health insurance. • Does this situation matter? • What might be done to fix it? EYE ONS

3. 10 Public Goods and Public Choices CHAPTER CHECKLIST When you have completed your study of this chapter, you will be able to • 1Distinguish among private goods, public goods, and common resources. • 2 Explain the free-rider problem and how public provision can help to overcome that problem. • 3 Explain the tragedy of the commons and review the possible solutions to that problem.

4. 10.1 CLASSIFYING GOODS AND RESOURCES • What is the essential difference between: • A city police department and Brink’s security • Fish in the Pacific Ocean and fish in a fish farm • A live concert and a concert on television • These, and all goods and services, can be classified according to whether they are excludable or nonexcludable and rival or nonrival.

5. 10.1 CLASSIFYING GOODS AND RESOURCES • Excludable • A good, service, or resource is excludable if it is possible to prevent a person from enjoying its benefits. • A good, service, or resource is nonexcludable if it is impossible to prevent a person from benefiting from it.

6. 10.1 CLASSIFYING GOODS AND RESOURCES • Examples of excludable items are • The security services of Brink’s • Fish in a fish farm • A live concert • Examples of nonexcludable items are • The services of the city police department • Fish in the Pacific Ocean • A concert on network television

7. 10.1 CLASSIFYING GOODS AND RESOURCES • Rival • A good, service, or resource is rival if its use by one person decreases the quantity available to someone else. • A good, service, or resource is nonrival if its use by one person does not decrease the quantity available to someone else.

8. 10.1 CLASSIFYING GOODS AND RESOURCES • Examples of rival items are • The services of Brink’s security • Fish both in ocean and in a fish farm • A seat at a live concert • Examples of nonrival items are • The protection provided by a city police department • A concert on network television

9. 10.1 CLASSIFYING GOODS AND RESOURCES • A Fourfold Classification • Private Goods • Aprivate goodis a good or service that can be consumed by only one person at a time and only by those people who have bought it or own it. • A private good is both rival and excludable. • For example, a can of coke.

10. 10.1 CLASSIFYING GOODS AND RESOURCES • Public Goods • Apublic good is a good or service that can be consumed simultaneously by everyone and no one can be excluded from enjoying its benefits. • It is both nonrival and nonexcludable. • For example, a flood-control levee.

11. 10.1 CLASSIFYING GOODS AND RESOURCES • Common Resources • Acommon resourceis a resource that can be used only once but no one can be prevented from using what is available. • It is both rival and nonexcludable. • For example, fish in the Pacific Ocean.

12. 10.1 CLASSIFYING GOODS AND RESOURCES • Natural Monopolies • A good or service that is nonrival but excludable is produced by a natural monopoly. • A natural monopoly is a firm that produces at lower cost than two or more firms can.

13. 10.1 CLASSIFYING GOODS AND RESOURCES Figure 10.1 shows this fourfold classification of goods and services.

14. 10.1 CLASSIFYING GOODS AND RESOURCES • Mixed Goods • A mixed good is a private good, the production or consumption of which creates an externality. • Externalities • Aexternalityis a cost (external cost) or a benefit (external benefit) that arises from production or consumption of a private good that falls on someone other than the producer or the consumer of the good.

15. EXTERNALITIES IN OUR DAILY LIVES 10.1 CLASSIFYING GOODS AND RESOURCES • Four types of externalities: • Negative production externalities • Positive production externalities • Negative consumption externalities • Positive consumption externalities

16. EXTERNALITIES IN OUR DAILY LIVES 10.1 CLASSIFYING GOODS AND RESOURCES • Negative Production Externalities • Pollution is the major example of this type of externality. • Others are noise and congestion. • Positive Production Externalities • Example: By working in close proximity to others in the same field, a buzz is created in bars and restaurants and at ball games that provide mutual benefits.

17. EXTERNALITIES IN OUR DAILY LIVES 10.1 CLASSIFYING GOODS AND RESOURCES • Negative Consumption Externalities • Smoking tobacco in a confined space • Noisy parties • Positive Consumption Externalities • A flu vaccination • Restoration of an historic building • Education and research

18. 10.1 CLASSIFYING GOODS AND RESOURCES • Mixed Goods with External Benefits • A flu vaccination is a private good. • A flu vaccination is excludable because it would be possible to sell vaccinations and exclude those not willing to pay from benefiting from them. • A flu vaccination is rival because providing a flu vaccination to one person means that there is one fewer for everyone else.

19. 10.1 CLASSIFYING GOODS AND RESOURCES • A flu vaccination has a private benefit—you avoid the flu. • But a flu vaccination has an external benefit—your neighbor who is not vaccinated has a better chance of avoiding the flu. • So a flu vaccination is a mixed good with an external benefit. • The external benefit is like a public good. • Another example is education.

20. 10.1 CLASSIFYING GOODS AND RESOURCES • Mixed Goods with External Costs • Your automobile is a private good—it isexcludable and rival. • But when you drive it, you pour carbon dioxide and other chemicals into the atmosphere. • Using your automobile imposes an external cost that is like a public bad. • So road transportation is a mixed good with an external cost.

21. 10.1 CLASSIFYING GOODS AND RESOURCES • Problems that Require Public Choices • Public goods and mixed goods with externalities, common resources, and natural monopoly goods create inefficiency—deadweight loss—and require public choices.

22. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM 10.1 PUBLIC GOODS • The Free-Rider Problem • Public goods create a free-rider problem. • A free rider is a person who enjoys the benefits of a good or service without paying for it. • Because of the free-rider problem, the market would provide too small a quantity of a public good. • To produce the efficient quantity, government action is required.

23. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM • The Marginal Benefit of a Public Good • The benefit a public good provides is the value of its services. • Because security lights in a common parking area are nonrival and nonexcludable, they are a public good. • Everyone consumes the same quantity of them. • To find the economy-wide value of the security lights, we add together the marginal benefits of everyone who benefits from them.

24. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM Figure 10.2 shows how to find an economy’s MB curve. Lisa’s marginal benefit curve is MBL. Max’s marginal benefit curve is MBM. The MB curve for the economy is the vertical sum of the marginal benefit curves of everyone in the economy—Lisa and Max.

25. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM • The Marginal Cost of a Public Good • Marginal cost increases as the quantity of a public good produced increases—the principle of increasing marginal cost. • So the marginal cost curve of public good slopes upward.

26. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM • The Efficient Quantity of a Public Good • Resources are used efficiently if marginal benefit equals marginal cost. • If marginal benefit exceeds marginal cost, resources can be used more efficiently by increasing the quantity produced. • If marginal cost exceeds marginal benefit, resources can be used more efficiently by decreasing the quantity produced.

27. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM Figure 10.3 shows the efficient quantity of a public good—surveillance satellites. 1.If MB exceeds MC, an increase in the quantity will make resource use more efficient. 2. IfMC exceeds MB, a decrease in the quantity will make resource use more efficient.

28. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM 3. IfMB equals MC, resource use is efficient. 4.The efficient quantity is 200 satellites. 5.Private provision leads to underproduction—in the extreme, to zero production.

29. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM • Private Provision: Underproduction • No one would have an incentive to buy his or her share of the satellite system—the free-rider problem. • So a private firm would not supply satellites. • Public Provision: Efficient Production • The political process determines the quantity of a public good provided—this quantity might be efficient or inefficient.

30. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM Figure 10.4(a) shows the preferences of two political parties in an election. 1. Doves would like to provide 100 satellites. 2. The Hawks would like to provide 300 satellites.

31. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM Figure 10.4(b) shows an efficient political outcome. 3. The political outcome is 200 satellites because, unless each party proposes 200 satellites, the other party can beat it in the election.

32. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM • Principle of Minimum Differentiation • The principle of minimum differentiation is the tendency for competitors to make themselves identical to appeal to the maximum number of clients or voters.

33. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM • Public Provision: Overproduction • Bureaucrats translate the choices of politicians into programs and control the day-to-day activities that deliver public goods. • The behavior of bureaucrats modifies the political outcome.

34. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM • Objective of Bureaucrats • The bureau’s goal is to maximize its budget. 1. The efficient quantity is 200 satellites. If the bureau is successful in the pursuit of its goal, the politicians provide 300 satellites. 2. With 300 satellites, marginal cost exceeds marginal benefit.

35. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM 3. With 300 satellites, inefficient overproduction occurs.

36. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM • Why don’t the politicians block the bureaucrats? • Rational Ignorance • Rational choice balances marginal benefit and marginal cost. • An implication of rational choice is rational ignorance. • Rational Ignoranceis the decision not to acquire information because the marginal cost of doing so exceeds the expected marginal benefit.

37. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM • Why Government Is Large and Growing • Voter preferences for public goods drive the growth of government. • The demand for national and personal security and the demand for other public goods are income elastic. • As incomes increase, the demand for these services increases by a larger percentage than the increase in income.

38. 10.2 PUBLIC GOODS AND FREE-RIDER PROBLEM • Part of the reason why government is large is • Inefficient overprovision of public goods • Voters’ rational ignorance • There is no easy fix for this problem. • Our ever-growing demand for education and health-care services contribute to the large and growing scale of government.

39. 10.3 EDUCATION AND HEALTH-CARE SERVICES • Private Benefits and Social Benefits • Marginal private benefit is the benefit of an additional unit of a good or service that the consumer of that good or service receives. • Marginal external benefit is the benefit of an additional unit of a good or service that people other than the consumer of the good or service enjoy.

40. 10.3 EDUCATION AND HEALTH-CARE SERVICES • Marginal social benefit is the marginal benefit enjoyed by society—by the consumer of a good or service and by everyone else who benefits from it. • Marginal social benefit (MSB) is the sum of marginal private benefit (MB) and marginal external benefit. • MSB = MB + Marginal external benefit

41. 10.3 EDUCATION AND HEALTH-CARE SERVICES Figure 10.6 shows an external benefit. When 15 million students attend college: 1.Marginal private benefit is $10,000 per student. 2. Marginal external benefit is $15,000 per student. 3. Marginal social benefit is $25,000 per student.

42. 10.3 EDUCATION AND HEALTH-CARE SERVICES Figure 10.7 shows inefficiency with an external benefit. 1.Market equilibrium is at a tuition of $15,000 a year and 7.5 million students and is inefficient because … 2.Marginal social benefit exceeds … 3.Marginal cost.

43. 10.3 EDUCATION AND HEALTH-CARE SERVICES 4.The efficient number of students is 15 million. 5. The gray triangle shows the deadweight loss created because too few students enroll in college.

44. 10.3 EDUCATION AND HEALTH-CARE SERVICES • Government Actions In the Face of External Benefits • Three devices that governments can use to achieve a more efficient allocation of resources in the presence of external benefits: • Public provision • Private subsidies • Vouchers

45. 10.3 EDUCATION AND HEALTH-CARE SERVICES • Public provision is the production of a good or service by a public authority that receives the bulk of its revenue from the government. • A subsidy is a payment that the government makes to private producers to cover part of the costs of production. • A voucher is a token that the government provides to households that can be used to buy specified goods or services.

46. 10.3 EDUCATION AND HEALTH-CARE SERVICES Public Provision Figure 10.8 shows how public provision can achieve an efficient outcome. 1.Marginal social benefit equals marginal cost with 15 million students enrolled in college. 2.Theefficient quantity. 3. Tuition is $10,000 per year. 4.Taxpayers cover the remaining $15,000 of marginal cost per student.

47. 10.3 EDUCATION AND HEALTH-CARE SERVICES Private Subsidies Figure 10.9 shows how a subsidy achieves an efficient outcome of 15 million students. 1. A $15,000subsidyper student shifts the supply curve to S = MC – subsidy. 2.The dollar price is $10,000 a student.

48. 10.3 EDUCATION AND HEALTH-CARE SERVICES 3. The market equilibrium is efficient with 15 million students enrolled in college. 4.Marginal social benefit equals marginal cost.

49. 10.3 EDUCATION AND HEALTH-CARE SERVICES Vouchers Figure 10.10 shows how vouchers can achieve an efficient outcome. The MSB curve becomes the demand curve because… 1. With vouchers, buyers are willing to pay MB plusthe value of the voucher.

50. 10.3 EDUCATION AND HEALTH-CARE SERVICES 2.Market equilibrium is efficient with 15 million students enrolled. 3.Price, marginal social benefit, and marginal cost are equal. 4. Tuition equals the dollar price of $10,000 plus the value of the voucher.