Chapter 22: Public Goods

Transcription

1 Chapter 22: Public Goods Commoditi es Nonrival Rival Public Goods Private Goods Nonexclusive Exclusive Nonexclusive Exclusive Pure Public Goods Profit-Maximization Condition Pure Private Goods Free Rider Pareto-Efficient Condition Second-Best Pareto-Optimum Lindahl Pricing Clarke Taxes Outline and Conceptual Inquiries Understanding Rivalry and Exclusive Good Characteristics Nonrival but Exclusive Commodities (Public Goods): Toll Bridges When will a firm sell you a video versus rent it to you? Application: The Phantom Profits of the Opera Free-Rider Problem: Public Broadcasting Why pay when you could ride for free? Application: The Union Free-Rider Problem Pareto-Efficient Conditions for Pure Public Goods Clarke Tax Application: Pigou and Clarke Join Hands Summary 1. Pure public goods are nonexclusive and nonrival commodities; pure private goods are exclusive and rival commodities. A commodity is nonexclusive when it is not possible to exclude other consumers from consuming the commodity. A rival commodity is where each additional unit consumed by one consumer results in less of the commodity available for other consumers. 2. The nonrival characteristics of a commodity allow the possibility of sharing the commodity among consumers. For a public good (exclusive but nonrival), as the number of times each commodity is shared increases, the firm will tend to rent the commodity instead of selling it. Specifically, when the marginal cost of production is greater than the consumers

2 transactions costs of renting instead of owning, the firm will generally rent instead of selling the commodity. 3. A free rider is an agent who cannot be excluded from receiving the benefits of a nondepletable commodity and who is unwilling to pay his portion of the cost. 4. The Pareto-efficiency condition for a pure public good is to set the sum of consumers MRS to the MRPT. This is in contrast to the Pareto-efficient condition for a private good of equating each consumer s MRS to the MRPT. 5. Mechanisms designed for determining group choice generally attempt to uncover the intensities of individual and group desires. One such mechanism is the Clarke tax, where pivotal consumers are provided an incentive to reveal their true preferences. 6. For intertemporal public goods, free riders are not a problem because the difference in demand occurring at different times are revealed. Key Concepts free rider Lindahl price private good public good pure private good pure public good Key Equations The social marginal rate of substitution for a pure public good is the sum of consumers marginal rates of substitution. The Pareto-efficient level of the pure public good is then determined by equaling this social marginal rate of substitution to the marginal rate of product transformation.

3 TEST YOURSELF Multiple Choice 1. A nonrival commodity is known as a a. Pure public good b. Public good c. Non-normal good d. Private good. 2. The difference between public goods and pure public goods is a. Public goods are also nonexclusive b. Public goods are used by free riders c. Pure public goods are also nonexclusive d. Pure public goods are rival. 3. Which of the following is a pure public good? a. A daily newspaper b. Cellular telephone service c. Disney World d. Broadcast television. 4. Young s Market is determining whether to sell its product or rent it to consumers. Assume the transactions cost of renting the product is $9.50 and the number of times the commodity is shared by consumers is 20. The firm s profits from renting the product will be higher as long as the marginal cost of selling the product is a. Less than $10 b. More than $10 c. Equal to $10 d. Between $9.50 and $ Consumers who cannot be excluded from receiving the benefits of a nonrival commodity and who are unwilling to pay their portion of the cost are a. Free payers b. Free consumers c. Free riders d. Free loaders.

4 6. After the weekend, two roommates are finally deciding who will clean the kitchen. The payoff matrix for their decision is as follows: Roommate 2 Cleans Does not clean Roommate 1 Cleans (30, 30) ( 60, 120) Does not clean (120, 60) ( 10, 10) Determine the Nash equilibria: a. (30, 30) b. (120, 60) and ( 60, 120) c. ( 10, 10) d. The outcome depends on which roommate moves first. 7. The Pareto-efficient level of a public good is a. MRS 1 + MRS MRS n = MRPT b. MRS 1 = MRS 2 = = MRS n = MRPT c. MRPT 1 + MRPT MRPT n = MRS d. MRPT 1 = MRPT 2 = = MRPT n = MRS. 8. A consumer s per-unit reservation price for a public good is known as a a. Lindahl price b. Pigou price c. Clarke price d. Public price. 9. The average revenue curve for a public good is a. A vertical line b. A vertical summation of individual demand curves c. The same as its marginal revenue curve d. A horizontal summation of individual demand curves. 10. Which is true concerning a public good? a. A consumer s net benefit will always be positive b. All consumers pay the same price but receive different quantities of the commodities c. The private market will over-produced the commodity d. Will be produced only if the sum of net benefits is positive.

5 Short Answer 1. Explain the difference among a private good, a public good and a pure public good. Provide examples of each. 2. How can a firm determine if it should sell its product or rent it to its consumers? What factors will affect this decision? Explain. 3. Suppose y is a public good. Explain why society s maximum willingness to pay for y is higher than an individual s willingness to pay for y. 4. Why do we sum demand curves horizontally when the good in question is a private good but vertically when the good is a pure public good? 5. Consider an economy with three consumers (Moe, Larry, and Curly) who must decide on purchasing some pure public good at a cost of $1200. Suppose before determining whether to purchase the good, the three have decided to split the cost evenly so each will pay $400. Moe places a value of $800 on the good, Larry places a value of $250, and Curly places a value of $200. From a Pareto-efficiency standpoint, should this good be purchased? Explain. How can a Clarke tax be used to ensure that Moe will not overstate his value of the good?

6 Problems 1. Suppose the inverse demand function for a commodity is p = 50 (q/150), and the commodity can be produced at a constant marginal cost of $10. a. Determine the firm s profit maximizing price and output. b. Suppose the commodity can be shared by 25 consumers at a transactions cost of $1. Determine the optimal level of the rental price. c. Which has the lower marginal cost of production: renting or selling? 2. Suppose an economy consists of two consumers (1 and 2) with demand functions x 1 = 14 3p and x 2 = 16 2p. The marginal cost for producing the commodity is MC = (1/5)Q. If Q is a private good, what is the Pareto-efficient level of output, price, and quantity that each consumer purchases? 3. Referring to Problem 2, if Q is a pure public good, what is the efficient level of output and the price each consumer pays? 4. Compare your answers from Problems 2 and 3. Why do they differ?