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Essential Question What role should government play in a free market economy? 1.

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Presentation on theme: "Essential Question What role should government play in a free market economy? 1."— Presentation transcript:

1 Essential Question What role should government play in a free market economy? 1

2 Objectives Identify examples of public goods. Analyze market failures.
Evaluate how the government allocates some resources by managing externalities.

3 Key Terms free rider: someone who would not be willing to pay for a certain good or service but who would get the benefits of it anyway if it were provided as a public good market failure: a situation in which the free market, operating on its own, does not distribute resources efficiently (need government intervention) externality: an economic side effect of a good or service that generates benefits or costs to someone other than the person deciding how much to produce or consume (pollution, living next to a park)

4 Key Terms , cont. public good: a shared good or service for which it would be inefficient or impractical to make consumers pay individually and to exclude those who did not pay non-rival good: a good or service that can be used by any number of consumers without reducing the benefits to any single consumer (public goods are non-rival; think of riding the train) public sector: the part of the economy that involves the transactions of the government private sector: the part of the economy that involves the transactions of individuals and businesses infrastructure: the basic facilities that are necessary for a society to function or grow – like roads, ports, canals, public transit (usually a public good)

5 New Park: Who Should Pay For It?
Uptown is going to build a new park that is a gorgeous place that provides recreation services What benefit does the park provide to you? What are the costs/tradeoffs of using the park? How much would you pay to use the park? If you are using the park, can other people use it as well? 100 people have paid to build the park. Will the 101st person still be able to use the park? Will people be upset if they are not allowed to use a park in their neighborhood How would the first 100 people who paid feel about this? Will any of the surrounding homes or businesses benefit from the new park?

6 Market Failures Market Failures are where the free market does not distribute resources efficiently or charge the right price for a good or service Some examples of market failures are: Free-Rider Problem Public Goods Externalities (especially Negative Externalities) Checkpoint Answer: Because the free market can not distribute public goods efficiently.

7 Free Riders One issue associated with public goods is known as the “free-rider problem.” Free riders are people who are not willing to pay for a particular good or service but would benefit from it if it were offered as a public good. Fire/Police Services, Parks, Beaches, Street Lights, Roads are all good examples of the free-rider problem

8 Public Goods A public good is a shared good or service for which it would be inefficient or impractical to make consumers pay individually and to exclude those who do not pay. Free markets will not provide these goods or services on their own Public goods are a market failure Free-Rider problem often makes it hard to charge consumers for using the public good

9 Public Goods, cont. Public goods can be used by any number of consumers without reducing the benefits to any single consumer. These are called non-rival goods This adds to the free-rider problem Think of a park, road, street sign, fire dept

10 Externalities Public goods involve externalities, which may be either positive or negative. Externality is a benefit or a cost that is not captured in the price We will explore externalities more when we talk about supply and demand Positive Externalities Represent the beneficial side effects of public goods Allow someone who did not purchase a good to enjoy part of the benefits of that good Examples: a new park would increase the value of homes nearby, but homeowners did not pay for the park A new road or highway might bring more people to a town, which will help local businesses grow, but the local businesses did not pay for the road

11 Externalities, cont’d. Negative Externalities
Represent the negative/cost side effects of public goods Cause part of the cost of producing a good or service to be paid for by someone other than the producer. Example: A coal-fired power plant produces electricity, but also has the negative externality of polluting the air. The power company does not pay for the cost of pollution, the neighbors “pay for this cost” by breathing polluted air Answers: It is positive because it means more business for nearby gas stations and restaurants and it is negative because it increases construction and traffic noise in the area.

12 Externalities, cont’d. A town is considering building a new bridge to help local farmers get their products to the market. Why would the construction of the bridge be considered a positive externality some people and a negative externality by others? Answers: It is positive because it means more business for nearby gas stations and restaurants and it is negative because it increases construction and traffic noise in the area. 12

13 Market Failures Checkpoint: Road construction is a public good. Explain how road construction is a market failure? Free-Rider Problem: If I paid for a road on my street, my neighbors could still use it Externalities: Roads might bring more traffic and pollution to an area (negative) or more stores and businesses to an area (positive) Public Good: Roads are shared and it is inefficient/impractical to charge people to use the road Checkpoint Answer: Because the free market can not distribute public goods efficiently. 13

14 Role of Government: Costs and Benefits
Since the free market doesn’t provide public goods, government must provide public goods The government will only pay for the cost of a public good if: The benefit to each individual is less than the cost that each individual would have to pay if it were provided privately (by the free market). The total benefits to society are greater than the total cost. Checkpoint Answer: 1) The benefit to each individual is less than the cost that each individual would have to pay if it were provided privately. 2) The total benefits to society are greater than the total cost.

15 Role of Government: Regulation and Externalities
Understanding externalities helps us see more roles that the government plays in the U.S. economy. The government may take action to create positive externalities, such as improving education. The government aims to limit negative externalities like pollution, such as the Clean Air Act or smog control on cars


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