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ECON 2: Chaper 4 - The Role of Government

Terms in this set (35)

Optimal Mix of Output
the most desirable combination of output attainable with existing resources, technology, and social values
Market Mechanism
the use of market prices and sales to signal desired outputs (or resource allocations)
-ideally, the market mechanism leads you to the optimal mix
-Changes in market prices direct resources from one industry to another, moving us along the perimeter of the production possibilities curve
Market Failure
implies that the forces of supply and demand haven't led us to the best point on the production possibilities curve
Market failure establishes a basis for:
government intervention
The 4 Causes of Market Failure
-Public Goods
-Externalities
-Market Power
-Equity
Private Good
A good or service whose consumption by one person excludes consumption to others
ex. You buy a doughnut. When you eat the doughnut, you alone get the satisfaction from its sweet, greasy taste - that is, you derive a private benefit. No one else benefits from your consumption of a doughnut
Public Good
good or service whose consumption by one person does not exclude consumption by others
-consumption of a public good by one person doesn't preclude consumption of the same good by another person
ex. National Defense
Free Rider
an individual who reaps benefits from someone else's purchase (consumption) of a public good
-everyone wants a "free ride" - everyone wants it, but no one is willing to pay for it
If public goods are marketed like private goods
everyone would wait for someone else to pay; end result being a total lack of public services
What is the major economic market problem concerning public and private goods?
The overproduction of public goods and the overproduction of private goods
-if we want more public goods, we need a nonmarket force - government intervention - to get them.
Externalities
Costs (or benefits) of a market activity borne by a third party; the difference between the social and private costs (benefits) of a market activity
Whenever externalities are present...
market prices aren't a valid measure of a good's value to society
Consequence of the presence of externalities
the market will fail to produce the right mix of output; the market will underproduce goods that yield external benefits and overproduce those that generate external costs
Social Demand Formula
Social Demand = market demand +/- externalities
External Benefits
If a product yields external benefits, the social demand is greater than the market demand
ex. the social value of the good exceeds the market price (by the amount of social benefit)
The Market Fails by:
-Overproducing goods that have external costs
-Underproducing goods that have external benefits
Monopoly
most severe form of market power; a firm that produces the entire market supply of a particular good or service
Market Power
the ability to alter the market price of a good or service; i.e. Monopoly
Antitrust
Government intervention to alter market structure or prevent abuse of market power
-prevent or dismantle concentrations of market power
Natural Monopoly
industry in which one firm can achieve economies of scale over the entire range of market supply
Transfer Payments
payments to individuals for which no current goods or services are exchanged, like Social Security, welfare, and unemployment benefits
Merit Goods
a good or service society deems everyone is entitled to some minimal quantity of
Unemployment
inability of labor-force participants to find jobs
Inflation
increase in the average level of prices of goods and services
Most of the growth in federal spending has come from
increased income transfers, not purchases of goods and services
The cost of government spending is measured by:
the private-sector output sacrificed when the government employs scarce factors of production
Opportunity Costs
most desired goods or services that are forgone in order to obtain something else
the cost of government spending is measured by the private-sector output sacrificed when the government employs scarce factors of production
Progressive Tax
tax system in which tax rates raise as incomes raise
Proportional Tax
tax that levies the same rate on every dollar of income
Regressive Tax
a tax system in which tax rates fall as incomes rise
Corporate Taxes
government taxes the profits of corporations a well as the incomes of consumers
Excise Taxes
sales taxes imposed on specific goods and services. Taxes not only liquor ($13.50 a gallon) but also gasoline (18.4 cents per gallon) and many others
-These not only discourage the production and consumption of these goods (by raising their price and thereby reducing the quantity demanded), they also raise a substantial amount of revenue
Government Failure
government intervention that fails to improve economic outcomes
Issues of government waste encompass two distinct questions:
Effiency: Are we getting as much service as we could from the resources we allocate to government?
Opportunity Cost: Are we giving up too many private-sector goods in order to get those services?
Public Choice
theory of public-sector behavior emphasizing rational self-interest or decision makers and voters
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