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MARKET FAILURE Negative / Positive Externalities Social Benefit and Cost

MARKET FAILURE Negative / Positive Externalities Social Benefit and Cost. MARKET FAILURE. What is Allocative Efficiency and Maximization of Welfare?. Burgers. $9. Consumer Surplus. $5. Producer Surplus. $1. 3. 1. 1 st Burger.

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MARKET FAILURE Negative / Positive Externalities Social Benefit and Cost

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  1. MARKET FAILURE Negative / Positive Externalities Social Benefit and Cost

  2. MARKET FAILURE What is Allocative Efficiency and Maximization of Welfare? Burgers $9 Consumer Surplus $5 Producer Surplus $1 3 1 1st Burger Consumers willing to buy 1st burger for $9 but pays market rate of $5 (market equilibrium price). Thus the consumers enjoy $9-$5 =$4 of consumer surplus, while producer enjoy $$5-$1=$4 of producer surplus.

  3. MARKET FAILURE What is Allocative Efficiency and Maximization of Welfare? Burgers $9 $7 Consumer Surplus $5 Producer Surplus $3 $1 2 4 1 2nd Burger Sellers willing to buy 2st burger for $7 but pays market rate of $5 (market equilibrium price). Thus the consumer enjoys $7-$3 =$4 of consumer surplus, while producer enjoy $$5-$3=$4 of producer surplus.

  4. MARKET FAILURE What is Allocative Efficiency and Maximization of Welfare? Burgers $9 $7 $6 $5 $4 $3 $1 2 4 1 3 Ultimately, when consumers pay the equilibrium price, we say that consumers and producer’s surplus is maximized. Another way to put is that allocative efficiency has been reached whereby welfare has been maximized. In this state resources are fully and efficiently used.

  5. MARKET FAILURE What is Allocative Efficiency and Maximization of Welfare? Burgers $9 $7 Welfare lost giving rise to inefficient use of resources $6 $5 $4 $3 $1 2 4 1 3 If society does not produce at ( up to the market clearing equilibrium of 4 units of at $5, then we say that the market is not allocative efficient. When this happens market failure occurs

  6. MARKET FAILURE When a market has failed to achieve economic efficiency it has failed to achieve allocative efficiency. This means that the market has failed to allocate the usage of resource in an efficient manner resulting in a society not achieving maximum welfare.

  7. MARKET FAILURE In a failed market, at market equilibrium, something is causing the market to not be able to allocate efficiently so that welfare is not maximized. The welfare of all in society (consumers, producer and all 3rd parties) has not been considered.

  8. MARKET FAILURE There are 4 causes of Market Failure 1. Externalities 2. Public Goods O level focus 3. Merit Good 4. Existence of Monopolies

  9. MARKET FAILURE • A. Negative Externalities They are defined as third party (or spill-over) effects arising from the production and/or consumption of goods and services for which there exist an external cost to society and no appropriate compensation is paid to society. • Negative externalities – smoking

  10. MARKET FAILURE • B. Positive Externalities They are defined as third party (or spill-over) effects arising from the production and/or consumption of goods and services the external benefit of which society has not paid for.  • Positive externalities - education

  11. MARKET FAILURE 2. Public Goods Null

  12. MARKET FAILURE 3. a. Merit Good b. Demerit Good

  13. MARKET FAILURE 4. Existence of Monopolies Null

  14. MARKET FAILURE Social Cost When one consumes a cigarette, others around him (the 3rd party) will also end up inhaling 2nd hand smokes. For these 3rd parties, long term exposure to these smokes will result in respiratory diesease and they will need to pay for medication. As such, the smoking of cigarettes (a demerit good) will give rise to social cost.

  15. MARKET FAILURE Social Benefit When one is injected with anti-flu vaccination, others around him (the 3rd parties) will not be infected and the person will also be healthier having less MCs. 3rd parties benefit by the person’s continued contribution to society as a productive unit of labour. As such, vaccination (a merit good) will give rise to social benefit.

  16. MARKET FAILURE 1. Positive or Negative Externalities? 2. Social Benefit or Social Cost? CIMB to process and present this table

  17. MARKET FAILURE 4. Existence of Negative Externalities

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