1. C H A P T E R 10 Prepared by: Fernando and Yvonn Quijano © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin Public Goods and Public Choice

2. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 2 of 18 Public Goods and Public Choice This chapter explores the economic challenges associated with providing—and paying for– goods that generate external benefits. We will also take a look at some alternative theories on government decision-making.

3. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 3 of 18 An Overview of Government Spending

4. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 4 of 18 External Benefits and Inefficiency When there are neither external benefits nor external costs, the market equilibrium is efficient. When the government intervenes in an efficient market, the result is inefficiency. A market with external benefits is inefficient, so there is an opportunity for government to promote efficiency.

5. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 5 of 18 Public Goods and External Benefits A public good is a good that is available for everyone to consume, regardless of who pays and who doesn’t. By contrast, a private good is consumed by a single person or household.

6. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 6 of 18 Public Goods and External Benefits Private goods are rival in consumption (only one person can consume the good) and excludable (it is possible to exclude a person who does not pay for the good). Public goods are nonrival in consumption (available for everyone to consume) and nonexcludable (it is impractical to exclude people who don’t pay).

7. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 7 of 18 Public Goods Examples of public goods are: National defenseNational defense Law enforcementLaw enforcement Space explorationSpace exploration Preservation of endangered speciesPreservation of endangered species Protecting the earth’s ozone layerProtecting the earth’s ozone layer Income transfers to the poorIncome transfers to the poor

8. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 8 of 18 Private Goods with External Benefits Some private goods generate benefits for people who are not directly consuming the good. One example is education, a good that generates two sorts of external benefits: 1. Workplace externalities. 2. Civic externalities. Because of these external benefits from education, the government uses various policies to encourage people to become educated.

9. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 9 of 18 Public Goods and the Free-Rider Problem Each person will try to get the benefit of a public good without paying for it. That is, each person will try to get a “free ride” at the expense of others who do pay.The problem with using voluntary contributions to support public goods is known as the free-rider problem. Each person will try to get the benefit of a public good without paying for it. That is, each person will try to get a “free ride” at the expense of others who do pay.

10. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 10 of 18 Overcoming the Free-Rider Problem Techniques to encourage people to contribute: Giving contributors private goods in return. Giving contributors private goods in return. Arranging matching contributions. Arranging matching contributions. Appealing to people’s sense of civic or moral responsibility. Appealing to people’s sense of civic or moral responsibility.

11. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 11 of 18 Public Choice Public choice economics is a field of economics that explores how governments actually operate.

12. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 12 of 18 Voting and the Median Voter Rule In a democracy, the government takes actions that are approved by the majority of citizens. If governments respond to voters, the voting public ultimately makes all the important decisions. The median-voter rule is a rule suggesting that the choices made by government will reflect the preferences of the median voter, defined as the voter who splits the voting population into two halves.

13. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 13 of 18 Voting and the Median Voter Rule If Penny proposes a $3 billion budget and Buck proposes a $7 billion budget, the election will result in a tie.

14. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 14 of 18 Voting and the Median Voter Rule Both candidates will propose a budget close to the $5 billion preferred budget of the median voter.Both candidates will propose a budget close to the $5 billion preferred budget of the median voter. By moving toward the median budget, Penny can increase her chance of being elected.By moving toward the median budget, Penny can increase her chance of being elected.

15. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 15 of 18 A CLOSER LOOK: Are Politicians Like Ice-Cream Vendors?

16. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 16 of 18 Alternative Models of Government: Self Interests and Special Interests Several economists, including Nobel Laureate James Buchanan, have suggested a model of government that focuses on the selfish behavior of government officials. The self-interest theory of government suggests that voters don’t have much information about the costs and benefits of public services, and may not be able to evaluate the actions of politicians. Limitations on taxes and spending are necessary safeguards against politicians and bureaucrats who benefit from large budgets.

17. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 17 of 18 Alternative Models of Government: Self Interests and Special Interests Another model of government is based on the idea that small groups of people manipulate government for their own gain. When a few people share the benefit from a project and a large number of people share the cost, government is more likely to approve inefficient projects.When a few people share the benefit from a project and a large number of people share the cost, government is more likely to approve inefficient projects. Special-interest groups form whenever the benefits are concentrated on a few citizens but costs are spread out over many citizens.Special-interest groups form whenever the benefits are concentrated on a few citizens but costs are spread out over many citizens.

18. C H A P T E R 10: Public Goods and Public Choice C H A P T E R 10: Public Goods and Public Choice © 2006 Prentice Hall Business Publishing Microeconomics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 18 of 18 Key Terms median-voter rule median-voter rule public choice economics public choice economics public good public good private good private good free-rider problem free-rider problem