Comprehensive Summary Note to Market Failure in Microeconomics
Essential Notes for IB and University Business and Economics Students
The main theme of this summary note is to discuss the definition of market failure, types of market failures such as public goods, merit and demerit goods, exte...
What is the most optimal way to allocate resources?
The most optimal way to allocate resource is when there’s a price equilibrium.
Perhaps giving people the same stuff (communism)
What does it mean by market failure ?
Markets are not perfect
Example, consumer +producer surplus = community surplus is not maximized.
Occurs when the production and consumption of a good by the free market takes place
at a level that is not socially optimum.
Common examples of market failure
1) lack of public goods
2) under-supply of merit goods
3) oversupply of demerit goods
Public goods
1) non excludable
Impossible to stop other people consuming it once it has been provided.
2) non-rivalrous
Consuming this product does not prevent another person from consuming it as well.
“Public goods are goods that would not be provided at all in a free market”
Free market = no public goods
1) non-excludable
Others gain bene t, even though they paid nothing
2) non-rivalrous
Private bene t is very small compared to cost, social bene t will be huge compared to the cost.
Merit goods
Goods that provide positive bene t to society when consumed
All merit goods are public goods
Underprovided Should be consumed more More bene t to society
Under-supply of merit goods
Solution?
Regulating laws to control it
Subsidy for less demerit goods product OTop
Opportunity cost
Long-term bond —> hard for a government to pay off debt
Not maximizing the stadium well less incomes
, Demerit goods - over-provided by the market and it is over consumption for example, cigarette and alcohol
- providing negative externality to society
Demerit goods solution
Tax
Negative advertising
Marginal = the extra you get after each EXTRA consumption (+1)
Marginal bene t (MB) - the extra bene t you get after each extra consumption
Marginal cost (MC) - the extra cost you pay for each extra consumption
Any extra bene t/ cost and in generally the more you have, the less useful it is.
Pn
Both societyand personagree itistrue
r
60 Thelawof deminishingreturn
D MB
l 2 3 4 5 6 7 Q
P S MC
n
moreexpensive
to havemoreextra 42
product
Equilibrium point is the most ef cient point
I 2 5 o SQ
to maximise society bene ts as well as minimize society cost. 3 4
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