Chapter 4:
THE PUBLIC SECTOR
Under what circumstances do markets fail?
How can government intervention help?
How much government intervention is
desirable?
Government Intervention
Market Failure
✸ Public Goods
✸ Externalities
✸ Market Power
✸ Equity
✸ Government Failure
✸
Government Intervention
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Market Failure
✸
Nature of Market Failure
» Market results in less than optimal
resource allocation
» Market either overproduces or
underproduces good
✸
Sources of Market Failure
» Public goods, Externatilities, Market
Power, Inequities
Government Intervention
Page 3
Public Goods
✸
Public Goods vs Private Goods
» Private Good
–
–
Rivals in consumption
Exclusion property
» Public Good
–
–
Nonrival in consumption
Nonexclusion property
Government Intervention
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Public Goods
✸
Pure Public Good
» Good that provides benefit to all
members of a community as soon as it
is available to any one person
» i.e. National defense, Mosquito control
✸
Joint Consumption
» Benefits are shared
Government Intervention
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Public Goods
✸
Free-Rider Dilemma
» A person seeks to enjoy benefit of
public good without paying
✸
Role of government
» Market would underproduce amount of
a public good
» Government must provide good
» Use taxes to pay for public good
Government Intervention
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Externalities
✸
Negative Externality (External Costs)
» Cost not reflected in the price
» i.e. Pollution
» Market will overproduce goods with
external costs
✸
Role of Government
» Government imposes taxes to
discourage production
Government Intervention
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Externalities
✸
Positive Externality (External Benefits)
» Benefit not reflected in price
» i.e. Education
» Market will underproduce goods with
external benefits
✸
Role of Government
» Government provides subsidies to
encourage production
Government Intervention
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Market Power
✸
Market Power
» Ability to alter the market price of a good
✸
Restricted Supply
✸
Role of Government
» Market provides less than optimal output
» Antitrust -- alter market structure
» Regulation -- alter prices or production
Government Intervention
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Equity
✸
Equity
» Whatever society thinks is “fair”
» Answer to “For Whom” question
✸
Transfer Payments
» Payments in which no good or services
are exchanged
» “Welfare”, Social security, Medicare,
Disability payments
Government Intervention
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Government Failure
✸
Government Failure
» Government intervention fails to
improve economic conditions
✸
Perception of Waste
» Efficiency
–
Are resources used to the fullest?
» Opportunity Cost
–
How much private goods are given up?
Government Intervention
Page 11