Harcourt Brace & Company PUBLIC GOODS AND COMMON RESOURCES Chapter 11

Harcourt Brace & Company The best things in life are free... n Most goods in our economy are allocated in markets. For these goods, prices are the signals that guide the decisions of buyers and sellers.

Harcourt Brace & Company The best things in life are free... n When goods are available free of charge, the market forces that normally allocate resources in our economy are absent.

Harcourt Brace & Company The best things in life are free... n When a good does not have a price attached to it, private markets cannot ensure that the good is produced and consumed in the proper amounts.

Harcourt Brace & Company The best things in life are free... n In such cases, government policy can potentially remedy the market failure that results and raise economic well- being.

Harcourt Brace & Company The Different Kinds of Goods n The various goods in our economy may be grouped by excludability and rivalness.

Harcourt Brace & Company The Different Kinds of Goods n Excludability People can be prevented from enjoying the good. Laws recognize and enforce private property rights.

Harcourt Brace & Company The Different Kinds of Goods n Rivalness One persons use of the good reduces the benefits available to others.

Harcourt Brace & Company Four Types of Goods n Private Goods n Public Goods n Common Resources n Natural Monopolies

Harcourt Brace & Company Types of Goods n Private Goods Are both excludable and rival. n Public Goods Are neither excludable nor rival.

Harcourt Brace & Company Types of Goods n Common Resources Are rival but not excludable. n Natural Monopolies Are excludable but not rival.

Harcourt Brace & Company Types of Goods Excludable?

Harcourt Brace & Company Public Goods n Goods that are not excludable and, therefore, are available to everyone free of charge. Externalities arise because something of value has no price attached to it. People receive benefits without having to compensate anyone for the use of scarce resources.

Harcourt Brace & Company The Free-Rider Problem n A free-rider is a person who receives the benefit of a good but avoids paying for it.

Harcourt Brace & Company The Free-Rider Problem n Since people cannot be excluded from enjoying the benefits of a public good, individuals may withhold paying for the good hoping that others will pay for it. n The free-rider problem prevents private markets from supplying public goods.

Harcourt Brace & Company Solution to the Free-Rider Problem n The government should provide the good if its total benefits exceed the costs. n The government can make everyone better off by providing the good and paying for it with tax revenue.

Harcourt Brace & Company Some Important Public Goods n National Defense n Basic Research n Programs to Fight Poverty

Harcourt Brace & Company Cost-Benefit Analysis n In deciding whether to provide a public good or not, one must determine the benefits and costs.

Harcourt Brace & Company Cost-Benefit Analysis n A cost-benefit analysis would be used to estimate the total costs and benefits of the project to society as a whole. It is difficult to do because of the absence of prices needed to estimate social benefits and resource costs. The value of life, the consumers time, and aesthetics are difficult to assess.

Harcourt Brace & Company Common Resources n Common resources are not excludable. n They are available free of charge to anyone who wishes to use them.

Harcourt Brace & Company Common Resources n Common resources are rival goods because one persons use of the common resource reduces other peoples use.

Harcourt Brace & Company Tragedy of Commons n When a person uses a common resource, he or she diminishes other peoples enjoyment of it. This is known as the Tragedy of the Commons. Thus, common resources tend to be used excessively. This creates a negative externality.

Harcourt Brace & Company Tragedy of Commons n Government can impose a tax or regulate the use of the common resource or turn the common resource into a private good.

Harcourt Brace & Company Examples of Common Resources n Clean air and water n Oil pools n Congested roads n Fish, whales, and other wildlife

Harcourt Brace & Company Importance of Property Rights n The market fails to allocate resources efficiently when property rights are not well-established. n When the absence of property rights causes a market failure, the government can potentially solve the problem.

Harcourt Brace & Company Government can potentially solve the problem by defining property rights and letting market forces work toward economic efficiency.... by regulating the private behavior that is causing overuse.... by supplying the good.

Harcourt Brace & Company Conclusion n Goods differ in whether they are excludable and whether they are rival. n Markets work best for private goods, which are both excludable and rival. n Public goods are neither rival nor excludable. n Because of the free-rider problem, governments provide public goods.

Harcourt Brace & Company Conclusion n Common resources are rival but not excludable. n Because people are not charged for their use of common resources, they tend to use them excessively. n Government tries to reduce the use of common resources through regulation and taxation.