Economics - Market Failure

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Market Failure

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A situation in which resources are not allocated to their highest valued use (absence of allocative efficiency)

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First and Second Parties

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Buyer and Seller

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Private Costs

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Cost that are born soley by the individuals involved in the transaction.

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Third Party

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People who are not directly involved in a given economic transaction

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Social Cost

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The Total cost of a transaction, the private cost plus the external costs

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Social Benefits

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The total social benefits derived from consuming a good, including the benefits to those who to NOT purchase the good

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Merit Good

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A good that has been deemed socially desirable throught the political process. (IB Use: Good that has positive externalities)

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Adverse Selection

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When high quality consumers are producers are driven out of the market because of limited information

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Market Solution

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Using markets to solve an economic problem, such as negative externalities. IN such a solution, the forces of supply and demand (the invisible hand) are still allowed to function. For example, the use of effluent fees or marketizing pollution rights.

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Non-Market Solution

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using non-market solutions, such as government rules which regulate or ban the use of goods with negative externalities, to solve an economic problem. Such solutions disregard the forces of supply and demand.

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Effluent Fee

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A charge to a polluter that gives the right to discharge into the air or water certain amounts of pollution. Also called a "pollution tax" or "Pigovian tax"

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Property Rights

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he right of an owner to use and exchange property

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Private Goods

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A good that is consumed by only one individual at a time. These are subject to the principal of rival consumption and are excludable.

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Principal of Rival Consumption

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The recognition that individuals are rivals in consuing private goods becaue one persona consumption reduces the amount available to others.

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Public Goods

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Goods for which consumption is non-rival and non-excludable.

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Exclusion Principal

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The principal that no one can be excluded from the benefits of a pubic good, even if they have not paid for it.

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Free Rider Problem

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A problem that arises when individuals attempt to let others pay for public goods or the good with positive externalities, while still enjoying their benefits.

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Government Goods

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Government (political) goods—Goods provided by governments, which may be private or public goods. Note: Often these goods require large investments and do not show a profit for a very long time.

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Time Horizons

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The period of time until which a person is willing to wait for a reward. Markets often fail to provide goods which have long time horizons.

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Limited Information

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When both parties to a sale do not have equal access to full information about a product. When this is the case, the market price will not be socially optimal.

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Free Rider

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A consumer who enjoys the benefit of a good or service without paying for that good or service.