CHAPTER 9 - CHAPTER 9 MARKET FAILURE Market Failure • A...

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CHAPTER 9: MARKET FAILURE
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Market Failure A major advantage of markets allocative efficiency (i.e. society‘s resources are used efficiently) If markets fail to achieve efficiency market failure
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Market Failure Possible reasons for market failure: Existence of market power (see Ch. 7) Externalities Public Goods
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Externalities Individual decision-making considers only the benefits & costs of an action that affect the individual itself Private costs/internal costs (costs that are borne by others are ignored) Private/internal benefits (external benefits, i.e. benefits that accrue to others, are ignored)
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Externalities Problem: if individuals are allowed to ignore external costs and benefits, society‘s scarce resources will be used inefficiently If we do not consider all costs produce too much of an item If we do not consider all benefits produce too little
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External Costs External Costs (=negative externalities): costs created by one group/party and imposed on another group/party Example: pollution (e.g. a firm dumping its waste in a nearby river) Social Cost = full cost of an action to society, i.e. private cost plus external cost
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Resource Misallocation resulting from external costs Recall: under pure competition. .. Demand curve = Marginal Social Benefit Supply Curve = Sum of all firms‘ MC curves Supply Curve = Marginal Private Cost of additional output But: as Marginal Social Cost also include external cost higher than marginal private costs Result: with negative externalities market output is higher than the socially efficient output
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Resource Misallocation resulting from external costs
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Correcting for External Costs Are there ways to make people take into account all costs of their action? Private bargaining Government Regulation Levying Taxes Pollution Taxes Tradable Emission Permits
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Private Bargaining Negotiation (e.g. over the appropriate extent of pollution) Necessary: clearly defined property rights Example: Who owns the river? If owned by community firm may pay for the right to dispose its waste If owned by the firm community may pay so that waste is disposed elsewhere Bargaining solution depends on extent of transaction costs (costs of striking a bargain depends on no. of people involved among other things)
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This note was uploaded on 04/29/2008 for the course ECON 101 taught by Professor Fels during the Spring '08 term at Wisconsin Milwaukee.

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CHAPTER 9 - CHAPTER 9 MARKET FAILURE Market Failure • A...

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