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Copyright © 2002 by Thomson Learning, Inc.
Chapter 4
Public GoodsCopyright © 2002 Thomson Learning, Inc.
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ISBN 0-03-033652-X
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Public Goods are goods for which exclusion is impossible. One example is National Defense: A
military that defends its citizenry from invasion does so for the entire public.
Public Goods
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Characteristics of Public Goods
Nonexclusion: The inability of a seller to prevent people from consuming a good when they do not pay for it.
Nonrivalry: The characteristic that if one person “consumes” a good, another person’s pleasure is not diminished nor is another person prevented from consuming it.
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Pure Public Goods and Pure Private Goods
Pure Public Good: There is no ability to exclude and there is no rivalry for the benefits.
Pure Private Good: There is a clear ability to exclude and there is rivalry for the benefits.
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Marginal Costs for Provision of Public Goods
The marginal cost of allowing another person to benefit from a pure public good is zero while the marginal cost of a greater level of public good is positive.
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Figure 4.1 Marginal Costs of Consuming and Producing a Pure Public Good-Figure A
Co
st (
Do
llar
s)
Number of Consumers 0
200
Marginal Cost of Allowing anAdditional Person to Consume aGiven Quantity of Pure Public Good
1
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Marginal Cost of Producing a Pure Public Good
Figure 4.1 Marginal Costs of Consuming and Producing a Pure Public Good--Figure B
Units of a Pure Public Good per Year
Co
st (
Do
llar
s)
MC = AC200
0
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ExampleBread versus Heat
Bread – Clearly a pure private good because there is the ability to exclude and there is rivalry.
Heat – Clearly a pure public good because there is no ability to exclude and there is no rivalry.
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Price Excludable Public Goods
vs
Congestible Public Goods
Provision of Private Good and Public Goods: Markets and
Government
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Price Excludable Public GoodsExcludability but no rivalry
Another type of good is a price-excludable public good: no rivalry but exclusion is easy.
Examples: Country Clubs, Cable TV
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Congestible Public GoodsRivalry but no excludability
There are public goods where, after a point, the enjoyment received by the consumer is diminished by crowding or congestion. These are called Congestible Public Goods. Examples: roads and parks
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Marginal Cost per User
Figure 4.2 A Congestible Public Good
Number of Consumers per Hour 0 1
Mar
gin
al C
ost
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CHARACTERISTICSOF THE GOOD OR
SERVICE
MEANS OFPRODUCTION
MEANS OFDISTRIBUTION
METHODSOF
FINANCE
PUBLICEXAMPLE
PRIVATEEXAMPLE
Pure Private GoodsNo externality;low-cost exclusion
Private firms;government
Markets; direct unitcharge
Revenuefrom sales
Food;clothing;cars
Governmentliquor stores;governmenttobaccomonopoly
Government;private firmsunder contractwith government
No direct unit charge;eligibility to consumevarious amountsdetermined politically
Taxes Governmentdistribution ofmedical servicesand food to lowincome citizens
Price-ExcludablePublic GoodsExternal benefitswhen produced orconsumed; low-cost exclusion
Private firms;government
Markets; direct unitcharge (may besubsidized)
Revenuefromsales;taxes
Schools;hospitals;transportation
Transit facilities;public hospitals
Government;private firmsunder contractwith government
No direct unit charge;consumption available orrequired only atcollectively chosenquantity and quality
Taxes Public schools;publicsanitation;inoculations
Table 4.1a Alternate Means of Producing, Distributing, and Financing Goods and Services
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Table 4.1b Alternate Means of Producing, Distributing, and Financing Goods and Services
CHARACTERISTICSOF THE GOOD OR
SERVICE
MEANS OFPRODUCTION
MEANS OFDISTRIBUTION
METHODS OFFINANCE
PUBLICEXAMPLE
PRIVATEEXAMPLE
Congestible PublicGoodsCollectivelyconsumed benefitssubject tocrowding;possibility ofexclusion
Private firms;government
Fees for the right touse the facility sold inmarkets
Revenuefrom sales
Clubs;theaters;amusementparks;sportingevents
Public golfcourses; roads
Government;private firmsunder contractwithgovernment
No direct user charge(or partial charge)
Taxes;revenue fromsales
Public parks;public recreation;roads, bridges
Pure Public GoodsCollectivelyconsumed benefitsnot subject tocrowding; high-cost exclusion
1. Private firms;government2. Government;private firmsunder contractwithgovernment
No direct unit charge;quantity dependent onamount collectedNo direct unit charge;quantity and quality ofservice collectivelychosen
Fees;contributionsTaxes
Privatecharity
Public televisionand radio Nationaldefense;environmentalprotection
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A
B
C
H
Exc
lud
abil
ity
Rivalry0
1
1
Figure 4.3 Classifying Goods According to the Degree of Rivalry and Excludability of Benefits from Their Use
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Demand For a Pure Public Good
Demand for a Pure Private Good is derived by adding quantities at each price.
Demand for a Pure Public Good is derived by adding how much people will be willing to pay at each quantity.
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Pri
ce
per
Lo
af
of
Bre
ad
(D
olla
rs)
Loaves of Bread Purchased per Week
Figure 4.4 Demand For a Private Good
7
6
5
4
3
2
1
0 1 2 3 4 5 9 10 6 87
E S = MC = AC
DC = MBCDB = MBA
DA = MBA
D = QD
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Security Guards per Week
Figure 4.5 Demand For A Pure Public Good
Z 1
Z 2
Z 3
Z4
100
200
300
400
500
600
700
800
Mar
gin
al B
enef
it (
Do
llar
s)
0 1 2 3 4 5
DA = MBA
DB = MBB
DC = MBC
DA= MBA
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Figure 4.6 Efficient Output for a Pure Public Good
Security Guards per Week
E
100
200
300
400
500
600
700
800
Mar
gin
al B
enef
it (
Do
llar
s)
0 1 2 3 4 5
MBA
MBB
MBC
DA= MBA = MSB
MC = AC = MSB
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Efficient Output of a Pure Public Good
The socially optimal level of the public good requires that we set the Marginal Social Benefit of that good equal to its Marginal Social Cost. MSB = MSC
Lindahl Pricing: Everyone in a group cooperates and pays their marginal benefit. We can demonstrate this issue mathematically,
numerically (using a table), and graphically.
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Mathematically
Recall from Figure 4.5 that the marginal social benefit for a pure public good is the sum of the individual marginal benefits.
That is: MSB = MB.
Efficient output is therefore:
MSB = MB = MSC.
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Numerically
Suppose we have three people who are discussing the issue of hiring security guards. Note that each person places a different value on the levels of security.
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Number of Security Guards per Week
1 2 3 4
MBA $300 $250 $200 $150
MBB $250 $200 $150 $100
MBC $200 $150 $100 $50
MB $750 $600 $450 $300If the cost of security guards is $450 per week, then no individual will hire even one guard, even though to group one is worth $750. The group should hire three.
If they pay their marginal benefit, then three guards are hired. Person A pays $600 ($200 per guard), person B pays $450 ($150 per guard) and person C pay $300 ($100 per guard).
A Numerical Example
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The Peace Dividend
National Defense is the classic pure public good.
Defense spending as a percentage of GDP Fell from above 8 percent during the Vietnam era
to just above 5 percent in the late 1970s; Grew during the Reagan defense buildup of the
1980s; Fell below 5 percent with the demise of the Soviet
Union.
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Public Policy Perspective: Defense Purchases as a Percentage of GDP, 1966–1999
1966
11
10
9
8
7
6
5
1971 1976 1981 1987 1999 1993
Year
Per
cen
tag
e o
f G
DP
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Lindahl Equilibrium
The amount each person contributes, ti, depends on their individual desires for the public good.
The sum of the contributions equals the total cost of the public good. tiQ* = MC(Q*) = AC(Q*) ti = MC = AC
All individuals agree to pay their share.
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Freeriding
Freeriding occurs when people are not honest in stating their Marginal Benefit because if they understate it, they can get a slightly reduced level of the public good while paying nothing for it.
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Freeriding is easier with
Anonymity: If everyone knows who contributes, there can be powerful social stigmas applied to shirkers.
Large numbers of people: It’s easier to determine the shirkers in a small group and the punishment is more profound when people close to you shun you.
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Illustrating Voluntary Contributions to a Public Good:
The Gulf War Under the premise that defeating Iraq in the
Gulf War was a public good to be consumed by the industrialized economies and Arab nations, each nation was expected to contribute.
The U.S. and UK contributed the bulk of the fighting forces.
Saudi Arabia, Kuwait, the UAE, Japan, and Germany voluntarily paid $54 billion of the estimated $61 billion cost.