1. 28
Government and Market Failure

2. Chapter Objectives
How Public Goods are Distinguished from Private Goods
The Method of Determining the Optimal Quantity of a Public Good
The Basics of Cost-Benefit Analysis
About Externalities (Spillover Costs and Benefits) and the Methods to Remedy Them
How Information Failures Can Justify Government Interventions in Some Markets

3. Public Goods Private Goods Public Goods Rivalry Excludability
Nonrivalry
Nonexcludability
Free-Rider Problem
Optimal Quantity of a Public Good
W 28.1

4. Demand for Public Goods
Two Individuals
(1)
Quantity
Of Public
Good
(2)
Adams’
Willingness
To Pay (Price)
(3)
Benson’s
Willingness
To Pay (Price)
(4)
Collective
Willingness
To Pay (Price) 1 2 3 4 5 $4 3 2 1 + $5 4 3 2 1 = $9 7 5 3 1
Graphically…

5. Demand for Public Goods$9 7 5 3 1 P Q 2 4
Collective Demand S
Optimal
Quantity
$7 for 2 Items
$3 for 4 Items
Collective
Willingness
To Pay DC
Connect the Dots
Comparing
MB and MC
Collective Demand and Supply $6 5 4 3 2 1 P Q
Benson’s Demand
$4 for 2 Items D2
$2 for 4 Items
Benson $6 5 4 3 2 1 P Q
Adams’ Demand
$3 for 2 Items
$1 for 4 Items D1
Adams

6. Cost-Benefit Analysis
Concept
Marginal-Cost-Marginal-Benefit Rule

7. Negative Externalities Positive ExternalitiesQ
Negative
Externalities St St
Positive
Externalities S Dt D D
Overallocation
Underallocation Qo Qe Qe Qo
O 28.1
Individual Bargaining: Coase Theorem
Limitations
Liability Rules and Lawsuits
O 28.2

8. Externalities Government Intervention A Market-Based Approach
Direct Controls
Specific Taxes
Subsidies and Government Provision
Subsidies to Buyers
Subsidies to Producers
A Market-Based Approach
The Tragedy of the Commons
A Market for Externality Rights

9. Externalities Operation of the Market Advantages Real-World Examples PQ
Price Per Pollution Right
Quantity of 1-Ton Pollution Rights
D2016
S=Supply of
Pollution
Rights
D2006
$200
$100
500
750
1000

10. Externalities Society’s Optimal Amount of Externality Reduction
MC, MB, and Equilibrium MC
Socially
Optimum Amount
Of Pollution
Abatement
Society’s Marginal Benefit and Marginal
Cost of Pollution Abatement (Dollars) MB Q1

11. Global Warming
Carbon-Dioxide Emissions, Tons Per Capita, Selected Nations 2004
GLOBAL PERSPECTIVE
United States
Australia
Canada
Czech Republic
Germany
Japan
United Kingdom
Italy
Spain
France
19.8
17.0
16.2
11.8
10.3
9.2
8.8
7.4
7.2
6.2
Source: OECD Environmental Data

12. Information Failures Asymmetric Information
Inadequate Information Involving Sellers
Example: Gasoline Market
Example: Licensing of Surgeons
Inadequate Information Involving Buyers
Moral Hazard Problem
Adverse Selection Problem
Workplace Safety
Qualification
O 28.3

13. Lojack: A Case of Positive Externalities
Last
Word
Private Crime Reduction Expenditures $300 Billion
Some Redistribute Rather than Reduce Crime
Lojack Car Recoveries are 95% Versus 60% for Others
Locates and Stops Chop Shops
Estimated 15 Times MSB to Consumers
Underallocation Result
Subsidize Consumer Purchase with Lower Insurance Rates
Discounts too Small to Offset Underallocation

14. Key Terms private goods public goods free-rider problem
cost-benefit analysis
marginal-cost-marginal-benefit-rule
externalities
Coase theorem
tragedy of the commons
market for externality rights
optimum reduction of an externality
asymmetric information
moral hazard problem
adverse selection problem

15. Public Choice Theory and the Economics Of Taxation
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Public Choice Theory
and the Economics
Of Taxation
Chapter 29!