This document discusses different types of goods and market failures related to public goods. It defines public goods as non-excludable and non-rival, meaning one person's use does not reduce availability to others. This leads to free-rider problems where private markets fail to provide enough public goods. The document outlines how governments can provide public goods instead and use cost-benefit analysis to determine the proper quantities, though this analysis faces challenges valuing hard-to-measure social impacts.

1. © 2007 Thomson South-Western

2. Public Goods and Common Resources
• When goods are available free of charge, the
market forces that normally allocate resources
in our economy are absent.
• When a good does not have a price attached
to it, private markets cannot ensure that the
good is produced and consumed in the proper
amounts.
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3. Public Goods and Common Resources
• In such cases, government policy can
potentially remedy the market failure that
results, and raise economic well-being.
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4. THE DIFFERENT KINDS OF
GOODS
• When thinking about the various goods in the
economy, it is useful to group them according
to two characteristics:
– Is the good excludable?
– Is the good rival?
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5. THE DIFFERENT KINDS OF
GOODS
• Excludability
– refers to the property of a good whereby a person
can be prevented from using it.
• Rivalry in consumption
– refers to the property of a good whereby one
person’s use diminishes other people’s use.
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6. THE DIFFERENT KINDS OF
GOODS
• Four Types of Goods
– Private Goods
• Goods that are both excludable and rival in consumption
– Public Goods
• Goods that are neither excludable nor rival in consumption
– Common Resources
• Goods that are rival in consumption but not excludable
– Natural Monopolies
• Goods that are excludable but not rival in consumption
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7. Figure 1 Four Types of Goods
Rival?
Yes No
Private Goods Natural Monopolies
Yes • Ice-cream cones • Fire protection
• Clothing • Cable TV
• Congested toll roads • Uncongested toll roads
Excludable?
Common Resources Public Goods
No • Fish in the ocean • Tornado siren
• The environment • National defense
• Congested nontoll roads • Uncongested nontoll roads
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8. PUBLIC GOODS
• A free-rider is a person who receives the
benefit of a good but avoids paying for it.
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9. The Free-Rider Problem
• Since people cannot be excluded from enjoying
the benefits of a public good, individuals may
withhold paying for the good hoping that others
will pay for it.
• The free-rider problem prevents private markets
from supplying public goods.
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10. The Free-Rider Problem
• Solving the Free-Rider Problem
• The government can decide to provide the public
good if the total benefits exceed the costs.
• The government can make everyone better off by
providing the public good and paying for it with tax
revenue.
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11. Some Important Public Goods
• National Defense
• Basic Research
• Fighting Poverty
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12. CASE STUDY: Are Lighthouses Public
Goods?
• Benefit is neither excludable nor rival in consumption
for ship captains
• Because of free-rider problem, private
• markets generally don’t provide lighthouses
• 19th century England, lighthouse owners
charged local port
• If port didn’t pay, light turned off
• Ships avoided that port
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13. The Difficult Job of Cost-Benefit Analysis
• Cost-benefit analysis refers to a study that
compares the costs and benefits to society of
providing a public good.
• In order to decide whether to provide a public
good or not, the total benefits of all those who
use the good must be compared to the costs of
providing and maintaining the public good.
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14. The Difficult Job of Cost-Benefit Analysis
• A cost-benefit analysis would be used to
estimate the total costs and benefits of the
project to society as a whole.
• It is difficult to do because of the absence of prices
needed to estimate social benefits and resource
costs.
• Without accurate prices, it is difficult to assess
attributes like…
• the value of life
• the value of consumers’ time, and
• the aesthetics of public good projects.
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15. Summary
• Goods differ in whether they are excludable
and whether they are rival.
– A good is excludable if it is possible to prevent
someone from using it.
– A good is rival if one person’s enjoyment of the
good prevents other people from enjoying the
same unit of the good.
© 2007 Thomson South-Western

16. Summary
• Public goods are neither rival nor excludable.
• Because people are not charged for their use of
public goods, they have an incentive to free
ride when the good is provided privately.
• Governments provide public goods, making
quantity decisions based upon cost-benefit
analysis.
© 2007 Thomson South-Western