To do today •  Ariely ques0ons •  Chapter 16 in text: Public choices and public goods Choices governments make
Why Governments Exist 1.  Establish and maintain property rights. 2.  Provide nonmarket mechanisms for alloca0ng scare resources. 3.  Implement arrangements that redistribute income and wealth. Who chooses
– Political Marketplace
– Voters express their
demand via votes.
– Voters and firms
express their demand
for policies via campaign
contributions.
– Politicians express
their supply of policies
with proposals which
they hope will attract
votes.
Public goods
– What is the essential
difference between:
§  A city police department
and Brink’s security?
§  Fish in the Atlantic Ocean
and fish in a fish farm?
§  A live concert and a
concert on television?
Classifica0on of goods – These and all goods and services can be
classified according to whether they are
–  excludable or nonexcludable
–  and rival or nonrival.
Excludable and nonexcludable
goods
•  Excludable:
– only the people who pay for it are able to enjoy
its benefits.
– Brink s security services, East Point Seafood s
fish, and a Coldplay concert are examples.
– Nonexcludable:
– it is impossible (or extremely costly) to prevent
anyone from benefiting from it.
– The services of the LAPD, fish in the Pacific
Ocean, and a concert on network television are
examples.
Rival and non-rival
Rival A good is rival if one person’s use of it decreases the quan0ty available for someone else. A Brink’s truck can’t deliver cash to two banks at the same 0me. A fish can be consumed only once. Nonrival A good is nonrival if one person’s use of it does not decrease the quan0ty available for someone else. The services of the LAPD and a concert on network television are nonrival. Four way classification
– Private Goods
– A private good is both
rival and excludable.
– A can of Coke
– Public goods
– A public good is both
nonrival and
nonexcludable. Can be
consumed simultaneously
by everyone, and no one
can be excluded from its
benefits.
– National defense
Common resources
– Rival and
nonexcludable.
– A unit of a common
resource can be used
only once, but no one
can be prevented from
using what is available.
Common resources –  Ocean fish are a common resource.
– They are rival because a fish taken by one
person isn t available for anyone else.
– They are nonexcludable because it is difficult
to prevent people from catching them.
Natural monopoly goods
– Nonrival and excludable.
– Special case: when the good or service can be produced
at zero marginal cost. Such a good is nonrival.
– If it is also excludable, it is produced by a natural
monopoly.
– The Internet and cable television are examples.
Four way classification
Mixed goods and externalities
– Private good the production or consumption
of which creates an externality.
External benefits and costs
– Mixed Goods with External Benefits
– Mixed Goods with External Costs
Market failure, inefficiency and
public choices
hMp://
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l_park.php Public choices must be made to §  Provide public good and mixed goods §  Conserve common resources §  Regulate natural monopoly Free-rider problem
• Public goods create a
free-rider problem—
the absence of an
incentive for people to
pay for what they
consume.
Free rider problem • A free rider enjoys the benefits of a good or
service without paying for it.
• Because no one can be excluded from the
benefits of a public good, everyone has an
incentive to free ride.
Valuing public and private goods
– The value of a private good is the maximum
amount that a person is willing to pay for one
more unit of it.
– The value of a public good is the maximum
amount that all the people are willing to pay
for one more unit of it.
Valuing public goods – Same concepts as for private goods
– To calculate the value placed on a public
good as well as a private good use the
concepts of total benefit and marginal benefit.
Benefit from a public good
– Total benefit : dollar value that a person
places on a given quantity of a good.
–  Increases with the quantity of the good.
– Marginal benefit (MB): theincrease in total
benefit that results from a one-unit increase in
the quantity of a good.
– - Decreases with the quantity of the good.
Providing Public Goods
– The marginal social
benefit curve for a
public good contrasts
with the demand curve
for a private good,
which is the horizontal
sum of the individual
demand curves at
each price.
Providing Public Goods
The marginal social cost of a public
good is determined in the same way as
that of a private good.
The efficient quantity of a public good
is the quantity at which marginal social
benefit equals marginal social cost.
Equilibrium between MSB and MSC Providing public goods
• Inefficient Private Provision
– If a private firm tried to produce and sell a
public good, almost no one would buy it.
– The free-rider problem results in too little of
the good being produced by a private firm.
Providing Public Goods
• Efficient Public Provision
– The government can tax all the consumers
of the public good and force everyone to pay
for its provision
–  Thus, public provision overcomes the freerider problem.
But politicians decide
– Principle of Minimum Differentiation
– The attempt by politicians to appeal to a majority
of voters leads them to the same policies—an
example of the principle of minimum
differentiation.
– The tendency for competitors (including political
parties) to make themselves similar so as to
appeal to the maximum number of clients
(voters).
– (The same principle applies to competing firms
such as McDonald s and Burger King).
And we have bureaucrats
– Objective of Bureaucrats (by
assumption)
– Bureaucrats want to maximize their
department s budget.
– A bigger budget increases their status and
power.
– Bureaucrats might try to persuade
politicians to provide more than the efficient
quantity.
MC, MB and rational ignorance
– Rational
ignorance is the
decision by a
voter not to
acquire
information
about a policy or
provision of a
public good
because the cost
of doing so
exceeds the
expected benefit.
Consequences of ra0onal ignorance – For voters who consume but don t produce
a public good, it is rational to be ignorant
about the costs and benefit.
– For voters who produce a public good, it is
rational to be well informed.
– When the rationality of uninformed voters
and special interest groups is taken into
account, the political equilibrium results in
overprovision of a public good.
Too many F-16s?
– If rationally ignorant
voters enable the
bureaucrats to
achieve their goal of
maximizing their
budget,
– the public good
might be
overprovided and
– a deadweight loss
created.
Providing Mixed Goods with
External Benefits
• Private Benefits and Social Benefits
– A private benefit is a benefit that the
consumer of a good or service receives.
– Marginal private benefit (MB) is the private
benefit from consuming one more unit of a
good or service.
– An external benefit is a benefit that someone
other than the consumer receives.
Providing Mixed Goods with
External Benefits
– Marginal external benefit is the benefit from
consuming one more unit of a good or service
that people other than the consumer enjoy.
– Marginal social benefit is the marginal benefit
enjoyed by the entire society—by the consumer
and by everyone else on whom the benefit falls.
– Marginal social benefit is the sum of marginal
private benefit and marginal external benefit. That
is:
– MSB = MB + Marginal external benefit.
Why subsidize educa0on? Why subsidize education?
– Marginal external
benefit is shown by the
vertical distance
between the MB and
MSB curves.
– Shows how much the
good (for example
education) provides a
benefit to those other
than the private
individual (here the
student) who consumes
it
Subsidizing is efficient Subsidizing education is efficient
– A private
market
underproduces
an item that
generates an
external benefit
– and creates a
deadweight loss.
Ariely ques0ons •  Why if ‘free’ (zero) special and how does it affect ra0onal behavior? (Consider the Halloween chocolate and the credit card examples.) •  Why do social norms conflict with being paid for some ac0vi0es (Thanksgiving dinner!) and what are the implica0ons for ra0onal behavior?