CHAPTER
Public Goods and Common
Resources
16
After studying this chapter you will be able to
Distinguish among private goods, public goods, and
common resources
Explain how the free-rider problem arises and how the
quantity of public goods is determined
Explain the tragedy of the commons and its possible
solutions
Free Riding and Overusing the Commons
Why does government provide some goods and services
such as the enforcement of law and order and national
defense?
Why don’t we let private firms produce these items and
leave people to buy the quantities they demand?
Ocean fish are a common resource that everyone is free to
take.
Are our fish stocks being depleted? What can be done to
conserve the world’s fish?
Classifying Goods and Resources
What is the essential difference between:
 A city police department and Brinks security
 Fish in the Atlantic Ocean and fish in a fish farm
 A live concert and a concert on television
These and all goods and services can be classified
according to whether they are excludable or
nonexcludable and rival or nonrival.
Classifying Goods and Resources
Excludable
A good is excludable if only the people who pay for it are
able to enjoy its benefits.
Brinks’s security services, East Point Seafood’s fish, and a
Coldplay concert are examples.
Nonexcludable
A good is nonexcludable if everyone benefits from it
regardless of whether they pay for it.
The services of the LAPD, fish in the Pacific Ocean, and a
concert on network television are examples.
Classifying Goods and Resources
Rival
A good is rival if one person’s use of it decreases the
quantity available for someone else.
A Brinks’s truck can’t deliver cash to two banks at the
same time. A fish can be consumed only once.
Nonrival
A good is nonrival if one person’s use of it does not
decrease the quantity available for someone else.
The services of the LAPD and a concert on network
television are nonrival.
Classifying Goods and Resources
A Four-Fold Classification
Private Goods
A private good is both rival and excludable.
A can of Coke and a fish on East Point Seafood’s farm are
examples of private goods.
Public goods
A public good is both nonrival and nonexcludable. A
public good can be consumed simultaneously by
everyone, and no one can be excluded from enjoying its
benefits.
National defense is the best example of a public good.
Classifying Goods and Resources
Common Resources
A common resource is 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.
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.
Classifying Goods and Resources
Natural Monopolies
In a natural monopoly, economies of scale exist over the
entire range of output for which there is a demand.
A special case of natural monopoly arises 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.
Classifying Goods and Resources
Figure 16.1
shows this
four-fold
classification
of goods and
services.
Classifying Goods and Resources
Two Problems
Public goods create a free-rider problem—the absence of
an incentive for people to pay for what they consume.
Common resources create a problem called the tragedy of
the commons—the absence of incentives to prevent the
overuse and depletion of a resource.
Public Goods and the Free-Rider
Problem
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.
To calculate the value placed on a public good, we use the
concepts of total benefit and marginal benefit.
Public Goods and the Free-Rider
Problem
The Benefit of a Public Good
Total benefit is the dollar value that a person places on a
given quantity of a good.
The greater the quantity of a good, the larger is a person’s
total benefit.
Marginal benefit is the increase in total benefit that results
from a one-unit increase in the quantity of a good.
The marginal benefit of a public good diminishes with the
level of the good provided.
Public Goods and the Free-Rider
Problem
Figure 16.2 shows how the
marginal social benefit of a
public good is the sum of
marginal benefits of
everyone at each quantity
of the good provided.
Part (a) shows Lisa’s
marginal benefit.
Part (b) shows Max’s
marginal benefit.
Public Goods and the Free-Rider
Problem
The economy’s marginal
social benefit of a public
good is the sum of the
marginal benefits of all
individuals at each quantity
of the good provided.
The economy’s marginal
social benefit curve for a
public good is the vertical
sum of all individual
marginal benefit curves.
Public Goods and the Free-Rider
Problem
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.
Public Goods and the Free-Rider
Problem
The Efficient Quantity of a Public Good
The efficient quantity of a public good is the quantity that
maximizes net benefit—total benefit minus total cost.
This quantity is the same as the quantity at which
marginal social benefit equals marginal social cost.
Public Goods and the Free-Rider
Problem
The total cost curve, TC, is
like the total cost curve for
a private good.
The total benefit curve, TB,
is just the sum of the
marginal benefit at each
output level.
The efficient quantity is
where net benefit is
maximized.
Public Goods and the Free-Rider
Problem
Equivalently, the efficient
quantity is produced where
marginal social benefit
equals marginal social
cost.
If marginal social benefit
exceeds marginal social
cost, net benefit will
increase if output is
increased.
Public Goods and the Free-Rider
Problem
If marginal social cost
exceeds marginal social
benefit, net benefit will
increase if output is
decreased.
So the quantity at which
marginal social benefit
equals marginal social cost
maximizes net benefit.
Public Goods and the Free-Rider
Problem
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.
Public Goods and the Free-Rider
Problem
Public Provision
Because the government can tax all the consumers of the
public good and force everyone to pay for its provision,
public provision overcomes the free-rider problem.
If two political parties compete, each is driven to propose
the efficient quantity of a public good.
A party that proposes either too much or too little can be
beaten by one that proposes the efficient amount because
more people vote for an increase in net benefit.
Public Goods and the Free-Rider
Problem
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 principle of minimum differentiation is the
tendency for competitors 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).
Public Goods and the Free-Rider
Problem
The Role of Bureaucrats
Figure 16.4 shows the goal
of bureaucrats, which is to
seek the highest attainable
budget for providing a
public good.
Public Goods and the Free-Rider
Problem
Bureaucrats might provide
the efficient quantity.
But they try to increase
their budget to equal the
total benefit of the public
good and drive the net
benefit to zero.
Bureaucrats might also try
to over provide a public
good.
Public Goods and the Free-Rider
Problem
Well-informed voters would
ensure that politicians
prevent the bureaucrats
from increasing their
budget above the minimum
total cost of producing the
efficient quantity.
But is it not rational for
voters to be well informed.
Public Goods and the Free-Rider
Problem
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.
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 public goods.
Public Goods and the Free-Rider
Problem
Two Types of Political Equilibrium
The two types of political equilibrium—efficient provision
and inefficient overprovision of public goods correspond to
two theories of government:
 Social interest theory predicts that political equilibrium
achieves efficiency because well-informed voters refuse
to support inefficient policies.
 Public choice theory predicts that government delivers
an inefficient allocation of resources—that government
failure parallels market failure.
Public Goods and the Free-Rider
Problem
Why Government Is Large and Grows
Two possible reasons are
 Voter preferences
 Inefficient overprovision
Government grows because the voters’ demand for some
public goods is income elastic.
Inefficient overprovision might explain the size of
government but not its growth rate.
Public Goods and the Free-Rider
Problem
Voters Strike Back
If government grows too large relative to the value voters
place on public goods, there might be a voter backlash
that leads politicians to propose smaller government.
Privatization is one way of coping with overgrown
government and is based on distinguishing between public
provision and public production of public goods.
Common Resources
The Tragedy of the Commons
The tragedy of the commons is the absence of
incentives to prevent the overuse and depletion of a
commonly owned resource.
Examples include the Atlantic Ocean cod stocks, South
Pacific whales, and the quality of the earth’s atmosphere.
The traditional example from which the term derives is the
common grazing land surrounding middle-age villages.
Common Resources
Sustainable Production
Figure 16.5 illustrates
production possibilities
from a common resource.
As the number of fishing
boats increases, the
quantity of fish caught
increases to some
maximum.
Overfishing occurs when
the maximum sustainable
catch decreases.
Common Resources
An Overfishing Equilibrium
Figure 16.6 shows why a
common resource get
overused.
The average catch per boat,
which is the marginal private
benefit, MB, decreases as
the number of boats
increases.
The marginal cost per boat
is MC (assumed constant).
Common Resources
Equilibrium occurs where
marginal private benefit, MB,
equals marginal cost, MC.
In equilibrium, the resource
is overused because no one
takes into account the
effects of her/his actions on
other users of the resources.
Common Resources
The Efficient Use of the Commons
The quantity of fish caught by each boat decreases as the
number of boats increases.
But no one has an incentive to take this fact into account
when deciding whether to fish.
The efficient use of a common resource requires marginal
social cost to equal marginal social benefit.
Common Resources
Marginal Social Benefit
Marginal social benefit is the increase in total fish catch
that results from an additional boat, not the average catch
per boat.
The table on the next slide shows the calculation of
marginal social benefit.
Common Resources
A
Boats
Total Catch
0
0
MSB
90
B
1
90
70
C
2
160
50
D
3
210
30
E
4
240
Common Resources
Efficient Use
Figure 16.7 shows the
marginal social benefit
curve, MSB, and the
marginal private benefit
curve, MB.
With no external costs, the
marginal social cost MSC
equals marginal cost MC.
The resource use is efficient
when MSB equals MSC.
Common Resources
Achieving an Efficient Outcome
It is harder to achieve an efficient use of a common
resource than to define the conditions under which it
occurs.
Three methods that might be used are
 Property rights
 Quotas
 Individual transferable quotas (ITQs)
Common Resources
Property Rights
By assigning property rights, common property becomes
private property.
When someone owns a resource, the owner is
confronted with the full consequences of her/his actions
in using that resources.
The social benefits become the private benefits.
But assigning property rights is not always feasible.
Common Resources
Quotas
By setting a production
quota at the efficient
quantity, a common
resource might remain in
common use but be used
efficiently.
Figure 16.8 shows this
situation.
It is hard to make a quota
work.
Common Resources
Individual Transferable Quotas
An individual transferable quota (ITQ) is a production
limit that is assigned to an individual who is free to
transfer the quota to someone else.
A market in ITQs emerges.
If the efficient quantity of ITQs is assigned, the market
price of an ITQ confronts resource users with a marginal
cost that equals MSB at the efficient quantity.
Common Resources
Figure 16.9 shows the
situation with an efficient
number of ITQs.
The market price of an
ITQ increases the
marginal cost to MC1.
Users of the resource
make marginal private
benefit, MB, equal to
marginal private cost,
MC1, and the outcome is
efficient.
Common Resources
Public Choice and Political Equilibrium
It is easy for economists to agree that ITQs make it
possible to achieve an efficient use of a common
resource.
It is difficult to get the political marketplace to deliver that
outcome.
In 1996, Congress killed an attempt to use ITQs in the
Gulf of Mexico and the Northern Pacific Ocean.
Self-interest and capture of the political process
sometimes beats the social interest.
THE END