1. Holding the Invisible Hand
Government Intervention in the Microeconomy

2. Central Questions of Government Intervention
Under what circumstances do markets fail?
How can government intervention help?
How much government intervention is desirable?

3. Market Failure Optimal Mix of Output Nature of Market Failure
Definition:
Nature of Market Failure
Definition of market failure:
Market Failure implies that the forces of supply and demand have not led us to the optimal mix of output
Sources of Market Failure
Public Goods
Externalities
Market Power
Inequity

4. Public Goods Definition of Public Good: Definition of Private Good:
Market Mechanism only works efficiently if the benefits of consuming a good or service are available only to those who purchase the product
Joint Consumption
One person consuming a public good does not preclude another person consuming the same good
“Free-Rider” Dilemma
Definition of “free-rider”:
Exclusion
In many cases, the technical capability to exclude “free-riders” from consuming a public good does not exist
Underproduction
The market tends to overproduce private goods and under produce public goods

5. Externalities Definition:
The market will underproduce goods that yield external benefits and overproduce goods that generate external costs
External Costs vs. External Benefits
Social Costs vs. Private Costs

6. Market Power & Inequity
Definition of market power:
The market mechanism functions through communications between producers and consumers by way of prices and purchases
The more market power a firm has, the greater its ability to ignore the desires of consumers and pursue profit maximization
Inequity
Market mechanism involves inherently unequal outcomes
Society generally expresses a desire for less unequal (but still unequal) distributions of wealth
Definition of income transfer
Table 9.1, pg. 205