ECON 4
externalities
a cost or benefit accruing to a third party external to the transaction
externalities concerning tax shift supply to the left
calculate externalities by the distance between those two supply curves
government intervention
correct negative externalities through direct control or specific taxes correct positive externalities through subsidies and government provision
government role in the economy
correcting externalities, officials must correctly identify the existence and cause principle agenda problem: elected people wont do as they said
cost-benefit analysis
cost: resources diverted from private good production or that will not be produced benefit: extra satisfaction from the output of more public goods
supply failure
firm does not pay the full cost of production external costs are not reflected in the supply
demand failure
impossible to charge consumer their willingness to pay, some can enjoy without paying
information failures
inadequate buyer information about sellers (solution: inspections, warrantees, franchising) inadequate seller info about buyer - moral hazard: change in behavior after purchase, reckless driver - adverse selection: buyer has more information then seller, sick person seeking insurance (solution: credit bureaus, safe-drive discounts)
market failures
market fails to produce the right amount of the product, over or under allocated resources
government intervention as implicit taxation
price controls can be viewed as a combination of tax and subsidy
private goods
produced in the market by firms, offered for sale characteristics: rivalry, excludability
consumer surplus (combination with consumer surplus maximized at market equilibrium)
product value from buying - price below the demand curve above the price area of the green triangle CS = 1/2 (P * Q)
elastic
products rarely used daily big change in the demand curve
inelastic
products used on a daily basis slight change between the quantity demanded and supplied such as food low prices decrease total revenue
public goods
provided by government, offered for free characteristics: non-rivalry, non-excludability, free-rider problem
lost of surplus
small triangle area left after change in price
efficiently functioning markets
supply must demonstrate the cost of production demand must show the consumers full willingness to pay
deadweight loss caused by a draft from price floor to ceiling
surplus transferred to the government (triangle under the original equilibrium dwl = triangle on the left of the equilibrium
price floor - demand (surplus)
tax on consumers and a subsidy for producers that transfer consumer surplus to producers increases producer surplus
price ceiling - with forced supply (shortage)
tax on producers or when wage offered is below the equilibrium and quantity supplied is below the quantity demanded increases consumer surplus
positive externalities (benefits)
too little is produces, demand-side market failures underproduction and under-allocation of resources gov. correction: subsidy to producers or consumers, government provision, private bargaining
negative externalities (costs)
too much is produces, supply side market failures overproduction of output and overallocation of resources gov. correction by: tax on producers, direct control, private bargaining
producer surplus (combination with consumer surplus maximized at market equilibrium)
value the producer sells the product - cost of producing above the supply curve below the price the producer receives area of the red triangle PS = 1/2 (P * Q)
