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Unformatted text preview: Principles of Economics I
Economics 101 Announcements Readings: Chapter 5 this week Discussion Sections this week New assignment available on Ctools No quiz Exam 2 Results: available through CTools today Answer keys available through CTools Joint Consumption Temptation to think externalities are always "sideeffects" Some goods and services provide externalities because they are jointly consumed We say there is no rivalry in consumption Examples: If I pay to erect a lighthouse to keep my ship safe, other ships benefit from the light as well If I pay to erect a wall to keep Canadians out of Michigan, everybody else benefits the same way Social benefit is the sum of all consumers' private benefits Example: Radio Broadcast WBHB "Buckethead & Bathory, All The
$/hour MVsoc Marginal externality P DWL
Supply (MC) MV2 Marginal externality MV1 Q* Qeff Hours broadcast/day Another Example Pollution as a "public bad" Retirement of pollution permits is a public good
Free riding Low incentive for any individual to contribute Contributions are low, and don't reflect the social value of the retired permits What's the Problem Here? Poorly assigned/enforced property rights Jointly consumed good (no "rivalry" in consumption) Difficult to exclude consumers ("non excludable") Call such a good a Public Good Examples: National Defense Radio Broadcasts Environmental Quality Ozone Layer Legal System Implications of Non-Excludability Implies that property rights are poorly defined Potentially generates market failures If I cannot be prevented from consuming a good, nobody can make me pay for it If I don't have to pay for it, I can't credibly express my valuation for that good
"Free Riding" Nonexcludability is rarely truly attained Better to think of exclusion being costly The more costly exclusion, the closer we get to the nonexcludability idea Theoretical Solution to the Public Goods Provision Problem
$/hour MVsoc P1+P2 = MC P2 P1 Qeff Supply (MC) MV2 MV1 Hours broadcast/day Solution to the Public Goods Provision Problem Solution is similar to that in the standard externality problem: Provide missing market(s) The missing markets are individual specific markets for the enjoyment of the public good Assigning and enforce property rights Allow trade in the rights to enjoy the externality To assign property rights, we must have excludability Compare Excludability allows individuals to be charged different prices in order to consume the good internet radio broadcasts (excludable at low cost) traditional radio broadcasts (excludable only at high cost) i.e. solve the missing market problem Imposed Solutions If we cannot exclude people, then we can make all people pay Taxation But how much should each person pay? Taxation schemes generally cannot differentiate between people to ensure individual's price equals individual's marginal valuation Even if we can charge different people different prices, how do we know their valuations? Inefficient provision of public goods: better or worse than the market? Taxonomy of Goods
Rivalry in Consumption Private Good food haircuts highways Common Property Resource common pasture land QuasiPublic Good Club Good websites swimming pool Public Good radio broadcast national defense Difficulty to Exclude Consumers Common Property Resources Usually associated with a negative externality Exclusion is costly, so many people can use the resource There is rivalry, so additional users impose negative externalities of existing users Additional users ignore those externalities Resource is overused or congested "The Tragedy of the Commons" Solution? Problem lies in assignment of property rights; and excludability If you can potentially exclude users, then you can make them pay to use the resource Charge a price equal to the externality imposed But if exclusion costs are very high, this solution is not available Example: Road Pricing Imposing different tolls on different roads gives drivers incentive to change their routes High tolls imposed where congestion costs are high Zero tolls charged where congestion costs are negligible Requires technology that excludes those who don't pay (or punishes those who use without paying) E.g Singapore's road pricing experience Tolls vary by location Tolls vary by time Tolls are easily amended in response to changing traffic patterns Network Externalities Converse of the common property case Additional users provide positive externalities to existing users Potential market failure: underinvolvement in a given network, and too many networks available ...
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