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Public Goods - Welker's Wikinomics Page

Characteristics of Private Goods
  • Private good; a good or service that is individually consumed and that can be profitably provided by owned firms (i.e. automobiles, clothing, personal computers, etc)
  • Rivalry (in consumption):
    • When one person buys and consumes a product, it is not available for another person to buy and/or consume.
      • Ex. When Adam purchases and drinks a bottle of water, the same bottle of water Adam has is not available for Benson to purchase and consume.
      • Ex. If Linda buys and uses a Wii, it is not there for Jason to buy and use.
      • Ex. If I buy a BMW car, you cannot buy the same car I bought.
  • Excludability (by a seller):
    • Only those who can afford a product may obtain its benefits.
      • Ex. Person A may have the means and will to pay for a t-shirt for $20. Person B may not wish to pay $20 or may not be able to; person B would not be able to purchase the good.
      • Ex. Only people who are willing and able to pay the market price for bottles of water can obtain these drinks and the benefits they confer.
    * These characteristics ensure that firms in a free market may find it profitable to produce and sell such private goods and if they are profit-seekers, suppliers enter the market and produce the desired goods.

  • A competitive market also allocates society's resources efficiently to the particular product (no under/over production or under/overallocation). It produces at the point where P=MC.
  • Firms can profitably "tap market demand" for private goods, and will produce and offer them for sale.
  • Market demand for a private good is the horizontal summation of individual demand schedules (Collective demand), where as an individual demand is just the inverse relationship between the quantity demanded by a consumer and the price.
  • Consumers fully express their personal demands for private goods in the market.

Characteristics of Public Goods
  • Non-rivalry (in consumption):
    • One person's consumption of a good does not prevent the others from consuming it.
      • Ex. Everyone can simultaneously obtain the benefit from a public good such as national defense, street lighting, public toilets, a global positioning system, or environmental protection without exerting any extra effort than the effort that is being put forth in a normal day without taking the benefit's costs into account.

  • Non-excludability (by a seller):
    • There is no effective way of excluding individuals from the benefit of the good once it comes into existence.
      • Ex. Once in place, one cannot exclude another from benefiting from national defense, street lighting, a global positioning system or environmental protection.
      • Ex. There is no way to exclude people from looking at a public statue in the park. Say that Ana paid her taxes (that paid for the statue) and Alan didn't. They are both allowed to view the statue. Alan doesn't have to wear blindfolds every time he walks by.
    • Note: Public goods are a market failure because resources are under allocated towards producing them. The market fails to provide these goods.
    • Examples:
    • Street lighting / Lighthouse Protection, Police services, Air defence systems, Roads / motorways, Terrestrial television, Flood defence systems, Public parks & beaches Because of their nature the private sector is unlikely to be willing and able to provide public goods. The government therefore provides them for collective consumption and finances them through general taxation.

    Consumption of public goods creates the free rider problem:
    • Everyone can benefit from the good; therefore, people have no incentive to pay for something free – "free riders".
    • If demand is not fully expressed in market, it is impossible for firms to gather together resources and profitably provide the good.
    • Solution: government provision of public goods through taxation. However, the free rider problem may still exist if illegal immigrants do not pay taxes and still enjoy the benefits of the goods in question.

    **Note: Controversy often arises over how mixed goods (ie excludable/nonrivalrous or nonexcludable/rivalrous) should be categorized.
    • Example: Highways with tollbooths: these roads are charged but one person driving on a highway does not usually reduce the usefulness of the highway to others.
    • Example: You cannot exclude someone from fishing in a public lake, but once a fish is caught it cannot be caught by any other fishermen.

    Optimal quantity of a public good
    • MB (society's marginal benefit) = MC (government's marginal cost).
    • Marginal benefit is defined as the collective willingness of costumers to pay for a public good, as best as it can be determined.
    • Demand is expressed by survey or public votes → compare it with the MC-MB-Analysis → Gov considers the extent to which the project will be constructed.
    • Adhering to the MB=MC rule, government can provide the right/ efficient amount of public good.

    Demand for a public good
    • Demand for Public Goods (i.e. Collective Demand) is represented through price-quantity schedules, showing the price someone is willing to pay for the extra unit of each possible quantity.
    • This is much different than the market demand schedule we previously learned; before it was how many goods for said price, but now the consumer can state what they want the price to be
    • Downward slope: decreases due to the law of diminishing marginal utility.
    • Demand curve = MB curve
    • Person A's willingness to pay + Person B's willingness to pay = collective willingness to pay = Demand C
    • Market demand for a public good is the vertical summation of individual demand schedules

    Supply for a public good

    • Supply curve for private or public good = its MC curve
    • MC rises as Q of good produced increases due to the law of diminishing returns.
    • Upward slope : law of diminishing returns + fixed plant + fixed resources + variable resource = diniminshing total product.

    Marginal benefit and marginal cost
    • Remember, Demand curve= MB curve, Supply curve= MC curve
    • Optimal quantity of good occurs where MB = MC or where the two curves intersect.
    • When MB = MC, the firm has achieved allocative efficiency.
    • If MC cannot equal MB, then you could take the closest quantity and price where MB>MC.

    Cost-benefit analysis
    • Used to decide whether to provide a particular public good and how much of it to provide by comparing the marginal costs and marginal benefits.
    • Can also help the government decide on the extent to which a project should be pursued.
    • An activity/project/output should be increased as long as MB > MC since marginal benefit exceeds marginal cost.
    • The activity should be stopped at the point where MB = MC, and do not pursue a project where MB < MC.
    • This is the marginal-cost-marginal-benefit rule, which tells us which plan gives society the maximum net benefit.
    • Economy in government does not mean minimization of public spending.
    • Governments use cost-benefit analysis on a large scale when determining the amount of resources to allocate to public goods vs. the amount of resources to allocate to private goods. They must compromise because there is always a trade-off.

    Public Goods - Welker's Wikinomics Page

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