1. Chapter 14: Government and Market Failure

2. Externalities
Negative externalities
Positive externalities

3. Negative externalities

4. Positive externality

5. Solution
Taxes or subsidies
regulations

6. Pollution
Marketable pollution permits

7. Coase theorem
If property rights are well defined and there are no transaction costs, private bargaining can correct for the presence of positive or negative externalities

8. Common property resources
Examples:
fisheries
endangered species
collective farms
communes
Solutions:
establishment of property rights
regulations

9. Public goods A good that is nonrival in consumption
free rider problem  underproduction
Solutions: subsidies or public provision

10. Imperfect information
Asymmetric information – one party to a contract has different information than the other party
Adverse selection
Moral hazard

11. Adverse selection
Occurs when the parties who are willing to accept a contract are of “lower quality” (from the perspective of the other party) than a random member of the population
“Lemon’s problem”
Examples: used cars, insurance issues, financial markets

12. Moral hazard
Occurs when one party to a contract has an incentive to alter his or her behavior to the detriment of the other party once a contract exists

13. Solutions to asymmetric information problems
Mandated information requirements
Mandated warranties
Copayments and deductibles
Incentive-compatible contracts designed to reduce the moral hazard problem

14. Government failure
Public choice theory
Logrolling
Rent seeking