Principles of Micro
by Tanya Molodtsova, Fall 2005
Chapter 11: Public Goods and Common
Resources
We Will Learn:
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the defining characteristics of public
goods and common resources.
why private markets fail to provide
public goods.
some of the important public goods in
our economy.
why the cost–benefit analysis of public
goods is both necessary and difficult.
why people tend to use common
resources too much.
some of the important common
resources in our economy.
Introduction
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Free goods provide a special
challenge for economic analysis.
Most goods in our economy are
allocated in markets…
When goods are available free of
charge,
- the market forces that normally
allocate resources in our economy
are absent.
- private markets cannot ensure that
the good is produced and consumed
in the proper amounts.
Introduction
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In such cases, government policy
can potentially remedy the market
failure that results, and raise
economic well-being.
The Different Kinds of Goods
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When thinking about the various
goods in the economy, it is useful to
group them according to two
characteristics:
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Is the good excludable?
Is the good rival?
Excludability: the property of a good
that a person can be prevented from
using it.
Rivalry: the property of a good that
one person’s use diminishes other
people’s use.
The Different Kinds of Goods
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Four Types of Goods
1.
2.
3.
4.
Private Goods: goods that are
both excludable and rival.
Public Goods: goods that are
neither excludable nor rival.
Common Resources: : goods that
are rival but not excludable.
Natural Monopolies: goods that
are excludable but not rival.
The Different Kinds of Goods
Rival?
Yes
Yes
No
Private Goods
Natural Monopolies
• Ice-cream cones
• Fire protection
• Clothing
• Cable TV
• Congested toll roads
• Uncongested toll roads
Common Resources
Public Goods
• Fish in the ocean
• Tornado siren
• The environment
• National defense
Excludable?
No
• Congested nontoll roads • Uncongested nontoll roads
The Different Kinds of Goods
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Public goods and common resources
each create externalities because they
have value but no price because they
are not sold in the marketplace.
These external effects imply that
market outcomes will be inefficient in
the absence of government
involvement or private resolutions to
correct the externality.
Public Goods
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Example: a fireworks display.
The Free-Rider Problem
A free-rider is a person who receives
the benefit of a good but avoids
paying for it.
Since people cannot be excluded
from enjoying the benefits of a public
good, individuals may withhold
paying for the good hoping that
others will pay for it.
The free-rider problem prevents
private markets from supplying public
goods.
The Free-Rider Problem
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Solving the Free-Rider Problem
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The government can decide to
provide the public good if the total
benefits exceed the costs.
The government can make
everyone better off by providing the
public good and paying for it with
tax revenue.
Some Important Public Goods
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National Defense
Basic Research
Fighting Poverty
Case Study: Are Lighthouses
Public Goods?
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Lighthouses are used so that ships can
mark specific locations and avoid
treacherous waters.
Use of a lighthouse is both
nonexcludable and nonrival.
Thus, most lighthouses are provided by
the government.
In 19th century England, lighthouses
were operated more like private goods.
The owners of local ports were charged
with the service and if they did not pay,
the owner of the lighthouse simply
turned off the light and ships avoided
stopping in that port.
The Difficult Job of Cost–Benefit
Analysis
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Cost benefit analysis: a study that
compares the costs and benefits
to society of providing a public
good.
In order to decide whether to
provide a public good or not, the
total benefits of all those who use
the good must be compared to
the costs of providing and
maintaining the public good.
The Difficult Job of Cost–Benefit
Analysis
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A cost-benefit analysis would be
used to estimate the total costs
and benefits of the project to
society as a whole.
It is difficult to do because of the
absence of prices needed to
estimate social benefits and
resource costs.
 The value of life, the consumer’s
time, and aesthetics are difficult to
assess.
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Common Resources
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Common resources, like public
goods, are not excludable. They
are available free of charge to
anyone who wishes to use them.
Common resources are rival goods
because one person’s use of the
common resource reduces other
people’s use.
The Tragedy of the Commons
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The Tragedy of the Commons is
a parable that illustrates why
common resources get used
more than is desirable from the
standpoint of society as a whole.
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Common resources tend to be used
excessively when individuals are
not charged for their usage.
This is similar to a negative
externality.
Some Important Common
Resources
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Clean air and water
Congested roads
Fish, whales, and other wildlife
Case Study: Why the Cow is
Not Extinct
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Elephants in Africa are common
resources because no one owns them.
 they are becoming extinct
Solution: governments could allow
people to kill the elephants on their
own property (thus making the
elephants a private good).
This is different from a cow, which is
usually owned by a ranch. The rancher
has an incentive to ensure that the
cattle population on his ranch is
maintained so that he can continue to
earn a profit.
Conclusion: The Importance
of Property Rights
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The market fails to allocate
resources efficiently when
property rights are not wellestablished (i.e. some item of
value does not have an owner
with the legal authority to control
it).
When the absence of property
rights causes a market failure, the
government can potentially solve
the problem.
Summary
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Goods differ in whether they are
excludable and whether they are
rival.
A good is excludable if it is
possible to prevent someone from
using it.
 A good is rival if one person’s
enjoyment of the good prevents
other people from enjoying the
same unit of the good.
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Summary
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Public goods are neither rival nor
excludable.
Because people are not charged for
their use of public goods, they have
an incentive to free ride when the
good is provided privately.
Governments provide public goods,
making quantity decisions based
upon cost-benefit analysis.
Summary
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Common resources are rival but
not excludable.
Because people are not charged
for their use of common
resources, they tend to use
them excessively.
Governments tend to try to limit
the use of common resources.
Summary
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When private parties cannot
adequately deal with externalities,
then the government steps in.
The government can either
regulate behavior or internalize
the externality by using Pigouvian
taxes or by issuing pollution
permits.