Transcript CHP 17. GOVERNMENT & MARKET FAILURE

MARKET GOVERNMENT GOVERNMENT
FAILURE INTERVENTION FAILURE
EXTERNALITY
-PUBLIC GOODS
MARKET
POWER
INEQUITIES
DYNAMIC
MKT. FAIL.
INDIVISIBILITY
INFORMATION
ASYMMETRY
FAILURE TO RATION
EXTERNALITIES: impacts on third parties
besides the buyer and seller.
CONSUMPTION EXTERNALITIES: impacts
on third parties as a result of the consumption
of a good.
=>Divergence of social and private demand
PRODUCTION EXTERNALITIES: impacts
on third parties as a result of the production of
a good.
=>Divergenece of social and private supply
Smoking
Price
Private Demand
Private Supply
$10/ Market equilibrium
Pack Price
# of packs
The Consumption Externality of Smoking:
Suppose everyone who smokes a pack costs $5 in costs on everyone else who breathes the
fumes. Private demand (the hooked) is in black. Social demand is in RED (deduct health
cost). Private Demand
Private Supply
Price
$10/
Pack
$5 per
pack
# of packs
The Consumption Externality of Smoking:
Suppose everyone who smokes a pack costs $5 in costs on everyone else who breathes the
fumes. Private demand (the hooked) is in black. Social demand is in RED (deduct health
cost). Private Demand
Private Supply
$5 per
pack
# of packs
The Consumption Externality of Smoking:
Suppose everyone who smokes a pack costs $5 in costs on everyone else who breathes the
fumes. Private demand (the hooked) is in black. Social demand is in RED (deduct health
cost). Private Demand
Private Supply
Socially Desirable
Price=
$8.46 per pack
$5 per
pack
# of packs
Price
Tobacco Production:
Production Externality
Private Demand
Private Supply
$2 per Market equilibrium
pound Price
Pounds of tobacco
Tobacco Production:
Every pound sold builds sound community of the U.S.A.:
value of moral fiber= $1 per $2 sold (50% ad valorem)
Price
$3
per
pound
Private Demand
Private Supply
50% above private market price:
Ad valorem sales subsidy
Pounds of tobacco
Contradictory policy on production and consumption:
other examples:
-Car production ($50 billion for GM, emission controls and
clunker taxes)
-Electric Power (subsidize production, tax
consumption (carbon tax))
-Oil (subsidize production (depletion allowance,
foreign tax exemption), tax consumption at pump)
-Steel (tax pollution, subsidize production (tariff))
-Medical education (subsidize doctor education,
tax physician incomes & malpractice insurance
requirement)
MARKET POWER: a downward sloping
demand curve from the point of view of the
seller; the power over the market price.
includes:
MONOPOLY, OLIGOPOLY,
MONOPOLISTIC COMPETITION,
MONOPSONY, OLIGOPSONY,
BILATERAL OLIGOPOLY, AND
BILATERAL MONOPOLY.
DEAD WEIGHT WELFARE LOSS OF MONOPOLY
Loss to Consumers Due to higher prices
+Gain to Producers Due to lower costs
=Increased profit to producers
MARGINAL
COST
transferred to producerA
Price
DEMAND
Deadweight loss:
due to lower output
neither gains
Monopoly
Case
Competitive
Case
Railroad Rates ($/ton mile)
DYNAMIC MARKET FAILURE: the failure
through time to achieve technological change
and the failure of the market to achieve stable,
equilibrium outcomes.
examples:
- Stagnation
- Lack of technological change.
-The cobweb problem
- Instability
COBWEB MODEL
Price
80
70
Suppose a shock knocks the price on the
Market higher to Ao.
Ao
60
50
40
30
20
B3
10
0
0
5
10
15
20
CHEMICALS (millions of pounds/year)
COBWEB MODEL
Price
80
70
60
50
Ao
A1
40
30
Because of higher prices, more firms enter
The market to produce more quanity supplied
20
B3
10
0
0
5
10
15
20
CHEMICALS (millions of pounds/year)
COBWEB MODEL
Price
80
70
60
50
Ao
40
A1
30
A2
With so much production, there is a surplus
On the market and prices fall.
20
B3
10
0
0
5
10
15
20
CHEMICALS (millions of pounds/year)
COBWEB MODEL
Price
80
70
60
50
Ao
40
A1
A3
30
A2
With such low prices firms get out of the
Market and there is very little supplied.
20
B3
10
0
0
5
10
15
20
CHEMICALS (millions of pounds/year)
COBWEB MODEL
Price
80
70
With so little production, people pay a lot
For what is available
Bo
60
50
Ao
40
A1
A3
30
A2
20
B3
10
0
0
5
10
15
20
CHEMICALS (millions of pounds/year)
COBWEB MODEL
Price
80
70
High prices induce firms to enter… with
A lag
Bo
60
50
Ao
40
B1
A1
A3
30
A2
20
B3
10
0
0
5
10
15
20
CHEMICALS (millions of pounds/year)
Price
COBWEB MODEL
80
70
60
Bo
50
Ao
40
B1
A1
A3
30
A2
20
B3 Overexpansion causes the price to drop B2
10
0
0
5
10
15
20
CHEMICALS (millions of pounds/year)
Price
COBWEB MODEL
80
70
60
Bo
50
Ao
40
B1
A1
A3
30
A2
20
B3 Such a low price provides no incentive B2
to produce any product at all.
10
0
0
5
10
15
20
CHEMICALS (millions of pounds/year)
WHAT PREVENTS THE UNSTABLE CYCLE?
- MORE INELASTIC SUPPLY
- A LONG TIME HORIZON
- INSTANTANTANEOUS FEEDBACK
ABOUT PRICES
- IMMEDIATE ADJUSTMENT OF PRODUCTION
- COUNTERCYCLICAL INVENTORY POLICY
(requiring storable goods)
- EXTRA CAPACITY
- MARKET POWER
- COMMUNICATION, PLANNING OF MEMBERS
IN MARKET. INFORMATION ON MARKET
- MARKETS THAT ALLOW SPECULATION
AGAINST UNSTABLE BEHAVIOR
Government intervention: BUFFER STOCKS
Quintiles Based on Per Capita
Income
Quintile
Cumulative %
% of
World
GNP
Cumulative
% GNP
Inequality
(2)-(4)
Average InequalInaequal- ity %
ity/%
(1)
(2)
(3)
(4)
(5)
(6)
(7)
0
0
20
20
1.80
1.80
18.2
9.1
1.82
30
50
2.58
4.38
45.62
31.91
9.57
10
60
2.53
6.91
53.09
49.36
4.94
20
80
17.22
24.13
55.87
54.48
10.90
20
100
75.87
100
0
27.94
5.59
100.00
Measure of
Total
0
Inequali 32.81
ty
WORLD INCOME DISTRIBUTION
100
90
Cumulative
% of:
Coun- GNP
tries
80
70
60
50
0
20
50
60
80
100
40
30
20
10
0
0
20
40
60
80
100
0
1.8
4.4
6.9
24.1
100
WORLD INCOME DISTRIBUTION
100
90
80
LINE OF
EQUALITY
70
60
50
USA
40
30
20
WORLD
10
0
0
20
40
60
80
100
FOUR FAILURES TO RATION
P
Not a Problem
P
P
R
R
R
I
I
I
I
C
C
C
C
E
E
E
E
R
Glut
Severe
P
Infeasibility
Shortage
QUANTITY
Demand
QUANTITY
QUANTITY
Supply
QUANTITY
GOVERNMENT STUDIES
Type of
Study
Objective of Study Definition and
Focus
Cost Benefit
Analysis
Net Social Benefit
Regulatory Impact
Analysis
Net Social Benefit
& other social
objectives
Economic Impact
Analysis
Describe all
regulatoryt impacts
Closure Analysis
Maximize
regulatory
objective
Cost Effectiveness
Analysis
Maximize pollution Avoids $ value on
abatement, etc.
benefits of
government
intervention
Up to decision
Focuses only on
makers
govt. unit
Fiscal Impact
Analysis
Implicit
Constraints
Benefits & costs
None
included to
whomever
occurring
Includes cost
Environmental &
benefit analysis and other constraints
other studies
Examines price,
output, financial, &
employment
impacts
Defines degree of
regulation that will
shut firms down
Assumes impacts
should be minimal
Implicitly, firms
are not to be shut
down
Budget or cost
constraint limits
amount of
intervention
Govt. revnue must
exceed cost
Problem
________
Comprehensive
measurement of
benefits & costs is
hard
Goes beyond costbenefit, but
becomes very
subjective
Regulation
discouraged.
Limited weighing
of costs/benefits
Overregulates
profitable,
underregulates
unprofitable
Comparisons
difficult across
different types of
intervention
Ignores costws &
benefits to society
STUDIES USED IN ORGANIZATIONS
OBJECTIVES CHOICES
TYPE OF STUDY
DEPARTMENT
min error
forecast technique Forecast, Projection
Economics,
Plans,Scenarios,
Finance, PlanSimulations
ning, Research
max sales
advertising, pricing Advertising, Demand Marketing
max output, Inputs, technoEngineering, Production Engineering,
min cost,
logies, inventories Cost Effectiveness,
Production,
max productivity
Feasibility
Personnel
max profit cash balances,
Income Statements,
Accounting,
method of payment Balance sheets, Scenarios Finance
max net
Real Estate, plant, Capital Budgeting
Finance,
present value equipment
Planning
max net
Public projects,
Cost-benefit Analysis Lawyers, Lobbenefit
taxes, regulation
byists, Trade A.
Expenditures
Management
max social
Forms of govt.
Industry Studies,
(same)
welfare
intervention
Environmental Impact,
Economic Impact
PRIVATE (for profit) STUDIES
Type of
Study
Objective of
Study
Definition and Focus
Private Cost
Benefit
Analysis***
Regulatory
Impact
Analysis
Economic
Impact
Analysis***
Closure
Analysis***
Net Social
Benefit must
be positive
Multiple
social
objectives
Maximizes
costs on the
regulated
Minimizes
regulatory
objective
Minimizes
ratio of net
cost to net
effectiveness
Maximize net
govt. surplus
Private benefits &
costs ONLY
Cost
Effectiveness
Analysis
Fiscal Impact
Analysis
Includes cost benefit
analysis and other
studies
Examines price,
output, financial, &
employment impacts
Defines degree of
regulation that will
shut firms down
Maximizes efficiency
in achieving objective
Focuses only on
government finances
Implicit
Constraints
None
Problem
________
Requires measurement of
all benefits & costs.
Ignores unmeasurable ones
Environmental & Goes beyond cost-benefit,
other constraints
but becomes very
subjective
arbitrary limits on Regulation discouraged.
acceptable costs of Ignores most social
compliance
benefits and costs
Implicitly, firms
Over regulates profitable,
are not to be shut under regulates
down
unprofitable
Budget or cost
Comparisons difficult
constraint of
when objectives
organization
(“effectiveness”) differ
across programs
Govt. revenue
Ignores full costs &
must exceed cost
benefits to society
*** Focuses only on private costs and benefits, not public costs and benefits
PRIVATE (for profit) STUDIES
Type of
Study
Objective of
Study
Definition and Focus
Private Cost
Benefit
Analysis***
Regulatory
Impact
Analysis
Economic
Impact
Analysis***
Closure
Analysis***
Net Social
Benefit must
be positive
Multiple
social
objectives
Maximizes
costs on the
regulated
Minimizes
regulatory
objective
Minimizes
ratio of net
cost to net
effectiveness
Maximize net
govt. surplus
Private benefits &
costs ONLY
Cost
Effectiveness
Analysis
Fiscal Impact
Analysis
Includes cost benefit
analysis and other
studies
Examines price,
output, financial, &
employment impacts
Defines degree of
regulation that will
shut firms down
Maximizes efficiency
in achieving objective
Focuses only on
government finances
Implicit
Constraints
None
Problem
________
Requires measurement of
all benefits & costs.
Ignores unmeasurable ones
Environmental & Goes beyond cost-benefit,
other constraints
but becomes very
subjective
arbitrary limits on Regulation discouraged.
acceptable costs of Ignores most social
compliance
benefits and costs
Implicitly, firms
Over regulates profitable,
are not to be shut under regulates
down
unprofitable
Budget or cost
Comparisons difficult
constraint of
when objectives
organization
(“effectiveness”) differ
across programs
Govt. revenue
Ignores full costs &
must exceed cost
benefits to society
*** Focuses only on private costs and benefits, not public costs and benefits
MARKET GOVERNMENT GOVERNMENT
FAILURE INTERVENTION FAILURE
EXTERNALITY PUBLIC ENTERPRISE
-PUBLIC GOODS-NATIONALIZATION
MARKET
-PRIVATIZATION
POWER
REGULATION
INEQUITIES
- OUTPUT
DYNAMIC
- PRICE
MKT. FAIL.
- STANDARDS
INDIVISIBILITY ANTITRUST
INFORMATION
-STRUCTURE
ASYMMETRY -CONDUCT
FAILURE TO
TAXES (SUBSIDIES)
RATION
PROVISION OF
INFORMATION
RATIONING (MONEY)
ADMINISTRATIVE
COST
COMPLIANCE
COST
EFFICIENCY COST
- NEGATIVE EXTER.
-PUBLIC BADS
- MKT POWER
- INEQUITIES
- DYNAMIC
- INDIVISIBILITY
- INFORMATION