Messed-Up Markets

1
Messed-Up Markets Public Goods, Common Property
Resources and Club Goods
Ordinary (private) goods have two important
features
They are excludable. You can stop people who
dont pay from consuming the good. They are
rival. When one person consumes a unit of the
good, others cannot consume the same unit.
When goods are either non-excludable or
non-rival, or both, then private markets usually
will not work efficiently.
2
Messed-Up Markets Common Property Resources and
Club Goods
Ordinary (private) goods have two important
features
Public Goods. Are non-excludable and non-rival.
E.g. National
defense. Common property resources Are
non-excludable, but rival. E.g. Open-ocean
fisheries. Club Goods Are excludable, but
non-rival E.g. Golf clubs, roads (up to a
point). Congestion goods Non-rival up to a
point, but they become rival once many people
start using the good.
3
Public Goods The payoff matrix for Ana and
Marias voting problem.
4
The Prisoners dilemma story. Ana and Maria have
been arrested on suspicion of stealing a
television. They are held in separate cells, and
the DA offers each of them the following
sentencing deals
5
Prisoners dilemmas are a common source of market
failure in different settings (not just public
goods). Airbus and Boeing are thinking of
discounting their prices to increase market
share. They face the following problem
Profit payoffs in cells
6
Public goods create a special type of
externality.
Private benefit from consuming a public good has
spillover benefits to strangers that I dont take
into account. The size of the spillover for each
free-riding stranger is just as large as my
private benefit. This induces me to choose to
buy none of the good and wait to free-ride on
some elses purchase. Viewed as an externality,
the only price that would induce me to buy any of
the good is a zero price. This requires a 100
subsidy from the government, which is equivalent
to the government buying the good itself, and
providing it free to the public.
7
The private provision of public goods.

• Altruism / philanthropy.

2. Tie the provision of the public good to the
provision of a private good.
A public good creates a missing market no one
is willing to pay. So replace the missing market
with a link to a market that exists.
Examples The lighthouse and port dues.
Broadcast TV and advertising.
8
Deriving the optimal provision of a public good.
Price
D
30
S
B
20
15
A
10
5
10
20
Quantity
9
Inducing truth-telling the Groves-Clarke
mechanism
10
Inducing truth-telling the Groves-Clarke
mechanism
A gets the project she wants, but pays a tax of
15. She gets a surplus of 10. If she overstates
her willingness to pay, it would have no impact
the decision is unchanged and so is her tax. If
she understates to avoid the tax, she would have
to reduce her stated valuation to less than 15.
Doing this avoids the tax, but also makes her
lose the consumer surplus of 10 she gets from
the project.
11
Inducing truth-telling the Groves-Clarke
mechanism
C would prefer the project did not go ahead. But
to make this happen he would have to declare a
consumer surplus worse than -15, so that the sum
of all four stated consumer surpluses becomes
negative. But doing this makes him pivotal. He
then pays a tax of 15, equal to the sum of the
consumer surpluses of the other three people.
Thus, the only lies that change the decision
enable C to gain 5 from not having the project,
but only at the price of paying a tax of 15.
12
Inducing truth-telling the Groves-Clarke
mechanism
B and D also have no incentive to lie with the
Groves-Clark tax mechanism. Clever, but not
used in practice.

• Governments often deal with projects that affects
  thousands or even millions of people. To induce
  truth telling, you would have to ask every single
  person to state their valuation. But in practice
  governments only ask a small sample of people and
  then use this small sample to estimate total
  population willingness to pay.
• Only a small number of people are pivotal, and
  they will pay much more than others. This likely
  to be politically infeasible.

So, the Groves-Clarke mechanism is not
really a practical idea for most government
problems. But it is popular in college classroom
experiments. And who knows, maybe you can use it
to get your roommate to tell the truth for once!
13
Common property resources
Some goods are nonexcludable but they are
rivalrous. Example Fishing in Biscayne Bay. If
you dont keep that extra trout, someone else
will get it. Faced with this outcome, many people
choose to keep the extra fish.
A common property resource is one that can be
exploited for private gain, but no one actually
owns the resource. Anyone can go fishing, but no
one actually owns the fish. Thus, there is
little benefit to any individual from conserving
the resource stock.
14
The common property resource problem is also a an
externality. Too much is consumed.
15
The tragedy of the commons (Garret Harding,
1968). The decline of fisheries since 1961.
16
The decline of the Western Atlantic fisheries
since 1961.
Bluefin tuna, western Atlantic stock declined
88 between 1961 and1995.
17
Blue Marlin, western Atlantic stock declined 85
between 1961 and1995.
18
South beach, March 2005.
Sailfish, western Atlantic stock declined 54
between 1961 and1995.
19
Club Goods
Club goods are excludable but (up to a point)
non-rival. That is, you can charge people for
consuming a good, but the cost to the owner of
the good (and to other users) of allowing one
more person to consume the good is essentially
zero. This usually creates a problem in which
the private sector would not produce the
socially-optimal quantity.
20
Pricing road trips
21
Congestion goods Congestion pricing for road trips
22
Summary
Public goods are non-excludable and non-rival.
A market left to itself usually will not
produce any of the good. This is a type of
prisoners dilemma. In some cases, it is
possible to tie consumption of a public good to
consumption of an ordinary (private) good, and
when this is the case private producers can be
induced to supply the good. When this is not the
case, the government must provide the good. The
optimal quantity is found by adding all
individual valuations and finding the point where
the sum of the valuations intersects the supply
curve. Problem inducing honest revelation of
valuation Groves-Clarke mechanism.
23
Summary
Common property resources are non-excludable but
rival. They are not owned by anyone but they can
be exploited for private profit. The usual
outcome when a market is left to itself is for
each person to exploit too much. Policy is
usually required to restrict the rate of
exploitation of the resource.
24
Summary
Club goods are excludable but non-rival. When a
private firm tries to provide a club good, it
usually charges too high a price (in comparison
with the social optimum) in order to cover its
costs. Too little is consumed. Congestion goods
are excludable and partially rival. In off-peak
periods they may be non-rival, while in peak
periods they become much more rival. Such goods
require different pricing schemes at different
times of the day.