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We have learned that competitive
markets are usually efficient. This is one of the benefits
of a market economy or capitalism (chaprter 2) . But
sometimes even markets can be allocatively inefficient. In
lesson 5a we learned that when negative externalities exist,
a market will produce too much of a good or service (an
overallocation of resources) and therefore the government
should tax the product (like gasoline taxes) to get
consumers to buy less, i.e. without the tax the price of
gasoline is too low.
In this lesson we will look at two
other market failures, but this time the market produces too
little (and underallocation of resources) because the demand
curve for the product does not include all of the benefits.
This occurs when there are positive externalities and when
there are "public goods" Be careful - remember - economists
often change the definitions of words. A public school or a
public park are not public goods according to our
definition. Since markets produce too little when there are
negative externalities or public goods, the goal of
government is to increase production.
In later chapters (10 and 11) we will
discuss another market failure: the lack of competition. If
a market is not competitive, like when it is a monopoly or
oligopoly, then profit maximizing businesses will produce
less than the efficient amount. The invisible hand of
capitalism does not work well if the market is not
competitive.
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