Chapter 4
Public Goods
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Public Goods
 Public Goods are goods for which
exclusion is impossible.
 One example is National Defense: A
military that defends its citizenry from
invasion does so for the entire public.
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Characteristics of Public Goods
 Nonexclusion: The inability of a seller to
prevent people from consuming a good when
they do not pay for it.
 Nonrivalry: The characteristic that if one
person “consumes” a good, another person’s
pleasure is not diminished nor is another
person prevented from consuming it.
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Pure Public Goods and
Pure Private Goods
 Pure Public Good: There is no ability to
exclude and there is no rivalry for the
benefits.
 Pure Private Good: There is a clear
ability to exclude and there is rivalry for
the benefits.
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Marginal Costs for Provision of
Public Goods
 The marginal cost of allowing
another person to benefit
from a pure public good is
zero while the marginal cost
of a greater level of public
good is positive.
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Figure 4.1 Marginal Costs of Consuming and Producing a
Pure Public Good-Figure A
Cost (Dollars)
200
Marginal Cost of Allowing an
Additional Person to Consume a
Given Quantity of Pure Public Good
0
1
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Number of Consumers
Figure 4.1 Marginal Costs of Consuming and Producing a
Pure Public Good--Figure B
Marginal Cost of Producing
a Pure Public Good
MC = AC
Cost (Dollars)
200
0 Units of a Pure Public Good per Year
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Example
Bread versus Heat
 Bread – Clearly a pure private good
because there is the ability to exclude
and there is rivalry.
 Heat – Clearly a pure public good
because there is no ability to exclude
and there is no rivalry.
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Provision of Private Good and
Public Goods: Markets and
Government
Price Excludable Public Goods
vs
Congestible Public Goods
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Price Excludable Public Goods
Excludability but no rivalry
 Another type of good is a priceexcludable public good: no rivalry but
exclusion is easy.
Examples: Country Clubs, Cable TV
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Congestible Public Goods
Rivalry but no excludability
 There are public goods where, after a
point, the enjoyment received by the
consumer is diminished by crowding or
congestion. These are called
Congestible Public Goods.
 Examples: roads and parks
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Marginal Cost
Figure 4.2 A Congestible Public Good
Marginal Cost per User
0
1
Number of Consumers per Hour
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Table 4.1a Alternate Means of Producing, Distributing, and
Financing Goods and Services
CHARACTERISTICS
MEANS OF
OF THE GOOD OR
PRODUCTION
SERVICE
Pure Private Goods Privat e f irms;
No ext ernalit y;
government
low-cost exclusion
Price-Excludable
Public Goods
Ext ernal benef it s
when produced or
consumed; lowcost exclusion
MEANS OF
DISTRIBUTION
Market s; direct unit
charge
METHODS
PUBLIC
OF
EXAMPLE
FINANCE
Revenue
Food;
f rom sales clot hing;
cars
Government ;
privat e f irms
under cont ract
wit h government
No direct unit charge;
eligibilit y t o consume
various amount s
det ermined polit ically
Taxes
Privat e f irms;
government
Market s; direct unit
charge ( may be
subsidized)
Revenue
f rom
sales;
t axes
Government ;
privat e f irms
under cont ract
wit h government
No direct unit charge;
consumpt ion available or
required only at
collect ively chosen
quant it y and qualit y
Taxes
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Schools;
hospit als;
t ransport a
t ion
PRIVATE
EXAMPLE
Government
liquor st ores;
government
t obacco
monopoly
Government
dist ribut ion of
medical services
and f ood t o low
income cit izens
Transit f acilit ies;
public hospit als
Public schools;
public
sanit at ion;
inoculat ions
Table 4.1b Alternate Means of Producing, Distributing, and
Financing Goods and Services
CHARACTERISTICS
OF THE GOOD OR
SERVICE
Congest ible Public
Goods
Collect ively
consumed benef it s
subject t o
crowding;
possibilit y of
exclusion
Pure Public Goods
Collect ively
consumed benef it s
not subject t o
crowding; highcost exclusion
MEANS OF
PRODUCTION
MEANS OF
DISTRIBUTION
METHODS OF
FINANCE
Privat e f irms;
government
Fees f or t he right t o
use t he f acilit y sold in
market s
Revenue
f rom sales
Government ;
privat e f irms
under cont ract
wit h
government
1 . Privat e f irms;
government
2 . Government ;
privat e f irms
under cont ract
wit h
government
No direct user charge
( or part ial charge)
Taxes;
revenue f rom
sales
No direct unit charge;
quant it y dependent on
amount collect ed
No direct unit charge;
quant it y and qualit y of
service collect ively
chosen
Fees;
cont ribut ions
Taxes
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PUBLIC
EXAMPLE
PRIVATE
EXAMPLE
Clubs;
t heat ers;
amusement
parks;
sport ing
event s
Public golf
courses; roads
Public parks;
public recreat ion;
roads, bridges
Privat e
charit y
Public t elevision
and radio Nat ional
def ense;
environment al
prot ect ion
Figure 4.3 Classifying Goods According to the Degree of
Rivalry and Excludability of Benefits from Their Use
A
1
C
H
B
0
1
Rivalry
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Demand For a Pure Public
Good
 Demand for a Pure Private Good is
derived by adding quantities at each
price.
 Demand for a Pure Public Good is
derived by adding how much people will
be willing to pay at each quantity.
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Price per Loaf of Bread (Dollars)
Figure 4.4 Demand For a Private Good
7
6
5
4
E
3
S = MC = AC
D = QD
DC = MBC
DB = MBA
DA = MBA
2
1
0
1
2
3
4
5
6
7
8
9
Loaves of Bread Purchased per Week
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10
Marginal Benefit (Dollars)
Figure 4.5 Demand For A Pure Public Good
800
Z1
700
Z2
600
Z3
500
400
Z4
DA= MBA
DA = MBA
DB = MBB
DC = MBC
300
200
100
0
1
2
3
4
5
Security Guards per Week
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Marginal Benefit (Dollars)
Figure 4.6 Efficient Output for a Pure Public Good
800
700
600
E
500
MC = AC = MSB
400
DA= MBA = MSB
300
MBA
MBB
MBC
200
100
0
1
2
3
4
5
Security Guards per Week
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Efficient Output of a
Pure Public Good
 The socially optimal level of the public good
requires that we set the Marginal Social
Benefit of that good equal to its Marginal
Social Cost. MSB = MSC

 Lindahl Pricing: Everyone in a group
cooperates and pays their marginal benefit.
 We can demonstrate this issue mathematically,
numerically (using a table), and graphically.
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Mathematically
Recall from Figure 4.5 that the marginal
social benefit for a pure public good is the
sum of the individual marginal benefits.
That is:
MSB = MB.
Efficient output is therefore:
MSB = MB = MSC.
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Numerically
Suppose we have three
people who are discussing
the issue of hiring security
guards. Note that each
person places a different
value on the levels of
security.
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A Numerical Example
Number of Security Guards per Week
1
2
3
4
MBA
$300
$250
$200
$150
MBB
$250
$200
$150
$100
MBC
$200
$150
$100
$50
MB
$750
$600
$450
$300
If the cost of security guards is $450 per week, then no individual will
hire even one guard, even though to group one is worth $750. The
group should hire three.
If they pay their marginal benefit, then three guards are hired. Person
A pays $600 ($200 per guard), person B pays $450 ($150 per guard)
and person C pay $300 ($100 per guard).
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The Peace Dividend
 National Defense is the classic pure public
good.
 Defense spending as a percentage of GDP
 Fell from above 8 percent during the Vietnam era
to just above 5 percent in the late 1970s;
 Grew during the Reagan defense buildup of the
1980s;
 Fell below 5 percent with the demise of the Soviet
Union.
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Percentage of GDP
Public Policy Perspective: Defense Purchases as a
Percentage of GDP, 1966–1999
11
10
9
8
7
6
5
1966
1971
1976
1981
Year
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1987
1993
1999
Lindahl Equilibrium
 The amount each person contributes, ti,
depends on their individual desires for
the public good.
 The sum of the contributions equals the
total cost of the public good.
 tiQ* = MC(Q*) = AC(Q*)
 ti = MC = AC
 All individuals agree to pay their share.
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Freeriding
 Freeriding occurs when people
are not honest in stating their
Marginal Benefit because if they
understate it, they can get a
slightly reduced level of the public
good while paying nothing for it.
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Freeriding is easier with
 Anonymity: If everyone knows who
contributes, there can be powerful social
stigmas applied to shirkers.
 Large numbers of people: It’s easier to
determine the shirkers in a small group and
the punishment is more profound when
people close to you shun you.
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Illustrating Voluntary
Contributions to a Public Good:
The Gulf War
 Under the premise that defeating Iraq in the
Gulf War was a public good to be consumed
by the industrialized economies and Arab
nations, each nation was expected to
contribute.
 The U.S. and UK contributed the bulk of the
fighting forces.
 Saudi Arabia, Kuwait, the UAE, Japan, and
Germany voluntarily paid $54 billion of the
estimated $61 billion cost.
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