H2 Market Failure - Public Goods

Front

What is allocative efficiency?

Back

Allocative efficiency is achieved when resources are allocated to produce the combination of goods and services that maximises society's welfare - when consumers and producers collectively maximise their gains/welfare. This represents a social optimum outcome in the free market.

Front

What is market failure?

Back

Market failure is an economic situation where the free market fails to allocate resources efficiently towards the production/consumption of goods & services that would maximise society's welfare. It occurs when the strict conditions for efficient market outcomes are not met.

Front

Define Marginal Social Benefit (MSB).

Back

MSB is the gain in welfare by the whole society when an additional unit of good is produced or consumed. It is the sum of Marginal Private Benefit (MPB) and Marginal External Benefit (MEB).

Front

Define Marginal Social Cost (MSC).

Back

 MSC is the cost that society incurs when an additional unit of the good is produced or consumed. It is the sum of Marginal Private Cost (MPC) and Marginal External Cost (MEC).

Front

What are the three distinct characteristics of public goods?

Back

Non-rivalrous in consumption

2. Non-excludable in consumption

3. Non-rejectable in consumption

Front

What does non-rivalry in consumption mean?

Back

Non-rivalry means consumption or use of a good/service by one consumer does not reduce the availability of goods for others. In other words, consumption by an additional consumer does not diminish the quantity and/or quality available to other consumers.

Front

What does non-excludability in consumption mean?

Back

 Non-excludability means consumption or use of the good/service cannot be limited to consumers who have paid for it. It is very difficult or costly to exclude anyone from enjoying the benefit of a good once it is made available, even if they refuse to pay for it.

Front

What does non-rejectability in consumption mean?

Back

Non-rejectability refers to the inability of consumers to refuse the consumption of a good once it has been produced. Once the public good is supplied, it cannot be rejected by consumers/beneficiaries.

Front

Why do public goods lead to market failure?

Back

• There is no effective demand and supply (price = 0, no revenue gained)

• The free market fails because market demand and supply are non-existent

• There is a 'missing' market / no market to allocate resources for production

• Once provided, consumers cannot reject consumption of the good

Front

What is the free-rider problem?

Back

It occurs when non-payers benefit from the consumption of the public good/service without paying for it. When consumers know they can free-ride, they will not be willing to pay for the public good/service, resulting in no effective demand.