MicroEconomics Chapter 4 Quiz

Differentiate between demand-side market failures and supply side market failures

- Demand and supply-side failures occur when demand and supply curves don't accurately represent their respective values. - Demand-side market failures occur when the demand curve does not represent consumers' full willingness to pay - Supply-side market failures occur when the supply curve does not represent suppliers' full cost of production

Show why we normally won't want to pay what it would cost to eliminate every last bit of a negative externality such as air pollution.

- Negative externalities is subject to the law of diminishing returns, which states that the marginal cost of removing negative externalities goes up as more is removed. - Once the marginal cost of removal is equal to the marginal benefit of removal, no more pollution will be removed.

Explain how positive and negative externalities cause under- and over-allocations of resources.

- Positive externalities cause demand-side market failures by failing to account for willingness to pay of consumers in the community who accrue communal benefits from a product. This failure shifts demand curves left and causes under-allocation of resources. - Negative externalities cause supply-side market failures, by failing to account for production costs born by the community. This action shifts the supply curve left and causes over-allocation of resources.

Describe free riding and public goods and illustrate why private firms cannot normally produce public goods.

- Public goods are goods that exhibit the characteristics of nonrivalry and nonexcludability. - Nonrivalry: One consumer's consumption of the good does not preclude another consumer's consumption - Nonexcludability: Firms have no way of excluding consumers from consuming the good. - Freeriding: Once a public good has been produced, consumers who did not pay can still benefit from the good. - Private firms cannot produce public goods because they cannot prevent consumers from accessing the goods, thereby preventing the collection of profit.

Explain the origin of both consumer surplus and producer surplus and explain how properly functioning markets maximize their sum, total surplus, while optimally allocating resources.

Consumer surplus is the difference between the price of a product and the price consumers are willing to pay. - Producer surplus is the difference between the minimum viable product price for the supplier to function and the price consumers are willing to pay. - Nominal markets have marginal benefits (demand curve) equaling marginal costs (supply curves), and maximum willingness to pay equaling minimum viable price