Wednesday, November 9, 2016

2008 B Micro FRQ #2

2008 B Micro FRQ #2

Market Failure Cheat Sheet Here.

(A) Draw a CLG of supply and demand, and

(i) Label the market price "Pm", and label the market output "Qm".
(ii) Label the socially efficient level of output "Qs".
(iii) Shade the area of DWL.

(B) Is marginal social cost greater than, less than, or equal to marginal social benefit at the market price?

The market price production is at Qm. Society (government) feels it would be a healthier society with more people vaccinated. Society wants more consumption of vaccines. In essence the price of vaccines is to high and the government can entice people to buy more vaccines if the price is lower. 

Society is not spending enough on vaccines or the social cost is to low. Society should spend more on vaccines raising the cost of spending to equal the benefit.

Government would entice people to buy with a subsidy that would lower the price. Remember that government cost increasing also increases the social cost as government is part of society.

Remember that the demand = benefit and the supply (MC) curve = costs
We firm wants to produce where MB = MC, and society where MSB = MSC

If MC < P we need to produce more, social costs are lower than social benefit - produce more.
to produce more we must hire more people to produce more
this extra production is spurred by giving subsidies to producers to get them to lower the price
Lower price more consumption

If MSC < MSB (demand) then costs must be lowered to get more consumption/production.

I know this section is weird, as during the beginning of the course we say that the most optimal amount of quantity to be produced is where S = D, market equilibrium. We promote the MB = MC understanding and then with market failure we say that for different reasons the people can't make the right decisions so government must step in with taxes or subsidies and fix the problem.

Economics is fun. Grind your teeth and understand what you need to to answer the questions for the exam...

(C) How will a tax on the producers of vaccines affect the DWL? Explain.

A tax on producers will raise their costs and on the margin some producers will go out of business reducing the supply of vaccines. This would move us further away from the Socially Optimal Quantity increasing the DWL.

Market Failure Cheat Sheet (Updated)

Market Failure Cheat Sheet (Updated)