Public Good Questions

Explain why markets fail in the case of public goods [5]

Introduction

• A pure public good is one that is non-excludable and non-rivalrous in consumption

R1: Explain Non-Excludability

• Non excludability means that it is technically impossible to exclude a non-payer from enjoying the benefits of the good
• For example, once streetlights are provisioned, it is nearly impossible to stop motorists from enjoying the benefits of the lights
• This gives rise to the "free-rider" problem where someoen can pay nothing yet enjoy the benefits of the good, where motorists are able to drive safely with the lighted environment
• There is thus no effective demand for streetlights as demand is concealed, and the market will fail to produce streetlights
• Public goods like streetlights are thus non-marketable and the market fails to produce any public good resulting in complete market failure

R2: Explain Non-Rivalrous

• Public are also non-rivalrous in consumption which means that the consumption of a good by one individual does not reduce the amount of it availiable for consumption by other individuals
• To continue with the example of streetlights, once the streetlights are provisioned, the amount of illumination enjoyed by one user does not reduce the amount availiable to another user
• This means that the marginal cost of providing the existing good to an additional individual is zero
• Given that allocative efficiency is only acheived when Price = Marginal Cost, the allocatively efficient price to charge is zero
• Since no price can be charged for the good, no producer would produce the good as no revenue can be generated resulting in complete market failure.

Conclusion

• Due to the above characteristics of public goods, private firms cannot profitably produce a public good
• However, production of these goods will lead to higher societal welfare such as streetlights preventing accidents on the road
• Government will need to intervene in these markets to ensure high levels of societal welfare

Author's Comment

Non-Rivalrous

• A common mistake here would be mentioning that the MC of producing the public good is 0
• The correct answer should be: MC of providing the public good to an additional user is 0

Non-Excludability

• A common mistake here would be mentioning that the "there is no demand for streetlights"
• The correct answer should be: there is no effective demand for streetlights