Chapter 6 Economics Vocab

Private Goods

A good that is RIVALROUS and EXCLUDABLE. Most goods are private goods.

Internalizing the Externality

Both taxes and tradable permits (dealing with negative production externalities) have the effect of internalizing the externality, meaning that the spillover costs that were previously external are now internal. (They are now paid for by producers who are parties to the transaction.) When the externality is internalized, firms pay for the spillover costs themselves.

Underdevelopment Traps

Coordination failures lead to underdevelopment taps, where the inability to coordinate activities that must begin simultaneously traps people into a situation from which they cannot escape without outside help. Development economists are increasingly looking at coordination failures as a likely cause of the inability of some developing countries to begin growth and development. (Government help required.)

Supplier-Induced Demand

Demand is induced (created) by the supplier, which would not have arisen is the supplier and the client had equal access to information. (Example: Doctors and lawyers often use this information for their own private gain by selectively revealing information to their clients that causes them to demand more services than necessary.)

Negative Externality

If the side effects on third parties are negative (involve costs), it is a negative externality. (Also known as a spillover cost.)

Positive Externality

If the side effects on third parties are positive (involve benefits), it is a positive externality. (Also known as a spillover benefit.)

Free Rider Problem (market failure illustration)

Public goods (as well as open access resources, because they are also non-excludable) illustrate the free rider problem, which arises in situations where people can enjoy the use of a good without having to ay for it, in other words taking a "free ride". The free rider problem arises from non-excludability.

Coordination Failure

A coordination failure involves a situation where the inability of economic decision-makers to coordinate their behaviours results in an outcome where everyone is worse off than they would have been had coordination been possible. Coordination failures arise when 2 or more activities that must begin fail to do so. Leads to underdevelopment trap. (Ex. farmers and middlemen)

Public Good

A good that is NONRIVALROUS and NONEXCLUDABLE. Since it is not possible to exclude someone from using the good, even though they do not pay for it, firms do not have an incentive to produce it. Public goods are therefore provided by the government. This is a type of market failure.

Sustainable Development

Development that meets the needs of the present without compromising the ability of future generations to meet their own needs. Developed in an effort to link economic and environmental goals. If we in the present are satisfying our needs and wants now unsustainably, it will be at the expense of the well-being of people in the future. Negative production and consumption externalities lead to unsustainable development.

Consumption Externality

Externalities that result from consumption. Two types: positive or negative consumption externalities

Production Externality

Externalities that result from production. Two types: positive and negative production externalities

Demerit Goods

Goods that are considered to be undesirable for consumers, and are overproduced by the market. Reasons for over-provision: the good may have negative externalities; consumer ignorance or indifference. Often have negative externalities. The logic of using taxes to correct this problem is that taxes lower the quantity of the demerit goods produced to the optimal quantity, so that they correct the problem of overallocation of resources and over-provision of the good.

Merit Goods

Goods that are held to be desirable for consumers, but which are under-provided by the market. Reasons for under-provision: The good may have positive externalities; low levels of income/poverty; consumer ignorance. Examples: education, healthcare, sports facilities. Often have positive externalities, so by increasing the supply through subsidies provided to private producers, the quantity supplied will increase to the optimal quantity, thus correcting under-provision.

Excludable

If a good is excludable, it is possible to exclude people from using the good. Exclusion is usually achieved by charging a price for the good. If someone is unwilling or unable to pay the price, he or she will not have the benefit of using it. Most goods are excludable. This is a characteristic of a private good.

Rivalrous / Rival Goods

If a good is rivalrous, its consumption by one person reduces its availability for someone else. Most goods are rivalrous, and this is a characteristic of a private good.

Open Access Resource / Common Property Resource

Not owned by anyone. Since they have no owner, they are not exchanged in any market; they do not have a price, and they are therefore available for anyone to use without payment. Since there is no price to ration their use, they are subject to overuse. Natural resources that have no ownership and are therefore subject to use are called open access resources, or common property resources. (Ex. air, oceans, rivers, lakes, wildlife.) Addressing overuse: taxes/legislations, advertising, tradable permits, international cooperations/agreements, extension of property rights.

Government Failure (aka Policy Failure)

Occurs when government intervention in markets results in less efficient outcomes than those that would have prevailed in the absence of the intervention. Occurs because: governments are a reflection of politics; governments do not always have all necessary information; government policies have a certain inertia that is sometimes difficult to change. Example of this is the use of perverse subsidies.

Externality

Occurs when the actions of consumers or producers give rise to positive or negative side-effects on other people who are not a part of these actions, and whose interests are not taken into consideration. (Arising when actions of consumers or producers have side-effects in the form of costs or benefits for others who are external to the market.) Can be positive or negative. Also: consumption and production

Tradable Permits

Permits to pollute that are issued to firms by a government or an international body and that can be traded (bough and sold) in a market. Supply of permits is perfectly inelastic (supply curve is vertical) as it is fixed. As an economy grows, demand will increase, but only price will increase as a reaction to this, and not supply.

Allocative Inefficiency

Results when marginal social benefits and marginal social costs arise, indicating to the presence of externalities. If there are externalities, the equilibrium prices and quantity determined by the intersection of the standard demand curve (MPB) and the standard supply curve (MPC) will no longer be a social optimum. To try to fix allocative inefficiency, social benefits and costs must be determined and addressed.

Social Benefit

Social benefits = private benefits + externality. (The new line on the graph, after positive externalities are taken into account.) Social benefits (MSBs) are represented in a diagram as a MSB curve, representing the full benefits to society from the consumption of a good.

Social Cost

Social costs = private costs + externality. (The new line after negative externalities are taken into account.) Social costs (MSCs) are represented in a diagram as a MSC curve, representing the full costs to society of producing the good.

Perverse Subsidies

Subsidies have the effect of increasing output produced by shifting the market supply curve downward (or to the right). In more developed and less developed countries alike, subsidies are often used for fossil fuels, with the effect of encouraging fossil fuel production and consumption, contributing significantly to environmental pollution, and reducing incentives for the development of alternate non-polluting energy sources. Reasons for fossil fuel subsidies include the promotion of the industrial sector by keeping costs down, promotion of international competitiveness of industrial products, support of domestic fuel production to ensure adequate domestic supply / to reduce reliance on foreign resources (for those countries that are fossil fuel producers), and to keep fuel prices low for consumers. The impact of subsidies on fossil fuels are entirely inconsistent with the pursuit of sustainable development, and are therefore perverse subsidies.

Market Failure

The failure of the market to allocate resources efficiently, or to provide the quantity and combination of goods and services mostly wanted by society (the optimum). Market failure results in allocative inefficiency, where too much or little of goods or services are produced and consumed from the point of view of what is socially most desirable.

Intersection of MSB and MSC

The intersection of MSB and MSC represents a social optimum in which allocative efficiency is achieved.

Allocative Efficiency

The production of the particular combination of goods and services that consumers mostly prefer, and is achieved when marginal benefit equals marginal cost, at which point the "what to produce" question is answered in the most satisfactory way.

Marginal Social Costs (MSC)

Values different from Marginal Private Costs (MPCs). If there is a negative externality present, there will arise additional costs affecting third parties in which case the full costs to society will differ from the private ones. Results in allocative inefficiency.

Marginal Social Benefits (MSB)

Values different than Marginal Private Benefits (MPBs). If there is a positive externality present, there will arise additional benefits affecting third parties in which case the full benefits to society will differ from the private ones. Results in allocative inefficiency.