1. Market Failures and the Role of the Government
Unit 6:
Market Failures and the Role of the Government
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2. 2011 Practice FRQ
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3. Market Failure #3 Monopolies

4. Antitrust Laws

5. What are Antitrust laws? Why are monopolies a Market Failure?
Antitrust Laws- Laws designed to prevent monopolies and promote competition.
After the Civil War, advances in technology and transportation lead to national markets.
Eventually only a few firms began to dominate industries: Railroads, Steel, meatpacking, coal, etc.
Sherman Act of “Every person who shall monopolize …or conspire to monopolize…shall be deemed guilty of a felony.”
Why are monopolies a Market Failure?
Monopolies destroy the key ingredient of the free market system- Competition.
To fix this MARKET FAILURE the government must get involved.

6. Regulating Monopolies
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7. Why Regulate? How do they regulate?
Why would the government regulate an monopoly?
To keep prices low
To make monopolies efficient
How do they regulate?
Use Price controls: Price Ceilings
Why don’t taxes work?
Taxes limit supply and that’s the problem
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8. Where should the government place the price ceiling?
1.Socially Optimal Price
P = MC (Allocative Efficiency) OR
2. Fair-Return Price (Break–Even)
P = ATC (Normal Profit)
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9. Natural Monopoly
One firm can produce the socially optimal quantity at the lowest cost due to economies scale. P
It is better to have only one firm because ATC is falling at socially optimal quantity MC
ATC MR D Q
Qsocially optimal 9
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10. Natural Monopoly Unregulated Fair Return Socially Optimal P PM MC PFR
ATC
QSO MR D Q QM
QFR
Qsocially optimal

11. Regulating a Natural Monopoly
What happens if the government sets a price ceiling to get the socially optimal quantity? P
The firm would make a loss and would require a subsidy MC
ATC
Pso MR D Q
Qsocially optimal

12. Review Activity: Name that Concept
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13. Round 1 Public Good Tax Positive Externality Free Rider
Marginal Social Cost
Round 1
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14. Round 2 Negative Externality Nonexclusion Market Failure
Invisible Hand
Common Pool Problem
Round 2
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15. Review Define Market Failure.
Identify the four market failures we have learned in this unit.
Explain why are public goods a market failure.
Explain why are externalities a market failure.
Explain why are monopolies a market failure.
By yourself, draw a positive externality.
By yourself, draw a negative externality.
Use graph to explain the remedy for positive externalities.
Use graph to explain the remedy for negative externalities.
Name 10 different super heroes.

16. Market Failure #4 Unfair Distribution of Wealth and Income
Net Worth over $2.3 billion
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17. Distribution of Wealth in the US
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18. (Based on 2003 Information)
Income Inequality
In 2003, the average American family made $66,863.
What’s wrong with using the average?
Averages reveal absolutely nothing about how income is distributed.
How does the government measure distribution of income?
(Based on 2003 Information)
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19. Gap Between Rich and Super Rich
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20. THE LORENZ CURVE
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21. Measuring Income Distribution
Review the process:
The government divides all income earning families into five equal groups (quintiles) from poorest to richest.
Each groups represents 20% of the population.
If there was perfect equality then 20% of the families should earn 20% of the income, 40% should earn 40% (and so on).
The government compares how far the actual distribution is from perfect distribution then attempts to redistribute money fairly.
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22. Measuring Income Distribution
Summary:
Group #1 (Poorest 20%)
Total of $5 (5% of total income)
Group #2
Total of $10 (10% of total income)
Group #3
Total of $15 (15% of total income)
Group #4
Total of $25 (25% of total income)
Group #5 (Richest 20%)
Total of $45 (45% of total income)

23. The Lorenz Curve Perfect Equality Percent of Income
100 80 60 40 20
Perfect Equality
Percent of Income
Percent of Families

24. The Lorenz Curve Lorenz Curve (actual distribution) Perfect Equality
100 80 60 55 40 30 20 15 5
Lorenz Curve
(actual distribution)
Perfect Equality
Percent of Income
Percent of Families

25. The Lorenz Curve Lorenz Curve (actual distribution) Perfect Equality
100 80 60 55 40 30 20 15 5
Lorenz Curve
(actual distribution)
Perfect Equality
Percent of Income
Percent of Families 25

26. (the size of the banana)
The Lorenz Curve
Lorenz Curve
(actual distribution)
Gini Coefficient-
Statistical measurement of income distribution. Area A divided by the sum of areas A and B
(the size of the banana)
Perfect Equality
Percent of Income
Area A
Area B
Percent of Families 26

27. The Lorenz Curve
Government transfer payments shift the Lorenz Curve toward more equality
Is that good or bad?
Perfect Equality
Percent of Income
Percent of Families
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28. Where does the government get the money for welfare?
Welfare provides a safety net for citizens (retirement, unemployment, workers comp, health, etc.) BUT, what are some possible downsides?
Where does the government get the money for welfare?

29. Types of Taxes
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30. Why does the government tax?
What are Taxes?
Taxes – mandatory payments made to the government to cover costs of governing.
Why does the government tax?
Two purposes:
Finance government operations.
Public goods-highways, defense, employee wages
Fund Programs- welfare, social security
2. Influence economic behavior of firms and individuals.
Ex: Excise taxes on tobacco raises tax revenue and discourages the use of cigarettes.

31. Three Types of Taxes
1. Progressive Taxes -takes a larger percent of income from high income groups (takes more from rich people).
Ex: Current Federal Income Tax system
2. Proportional Taxes (flat rate) –takes the same percent of income from all income groups.
Ex: 20% flat income tax on all income groups
3. Regressive Taxes –takes a larger percentage from low income groups (takes more from poor people).
Ex: Sales tax; any consumption tax.

32. What kind of taxes are these? (THINK % of Income)
Three Types of Taxes
What kind of taxes are these? (THINK % of Income)
Toll road tax ($1 per day)
State income tax where richer citizens pay higher %
$.45 tax on cigarettes
Medicare tax of 1% of every dollar earned
8.25% California sales tax
Regressive
Progressive
Proportional

33. Federal Income Tax Debate
Equal Tax of $350 per week (Regressive Tax)
Income Amount of Tax % Amount to live on
$200 $ % -$150)[crime?]
$350 $ % $0
$500 $ % $150
$1,000 $ % $650
$5,000 $ % $4,650
Tax tax of 20% per week (Proportional Tax)
Income Amount of Tax Amount to live on
$200 $40 $160
$350 $70 $280
$500 $100 $400
$1,000 $200 $800
$5,000 $1,000 $4,000

34. Federal Income Tax Debate This is our current system. Is it fair?
The Progressive tax system is the most effective way to fight this market failure

35. Practice

36. 2008 Audit Exam
44. B

37. GREAT NEWS…
YOU ARE DONE WITH MICRO!!!!