8. The Types of Goods

The Free Rider Problem and the Tragedy of the Commons

8. The Types of Goods

The Free Rider Problem and the Tragedy of the Commons: Videos & Practice Problems

Topic summary

Public goods, characterized by non-rivalry and non-excludability, face the free-rider problem, leading to under-supply in private markets. For instance, a fireworks show valued at $1,000 by townsfolk may not be funded due to their desire to benefit without payment. Governments often intervene by taxing residents to provide such goods, ensuring marginal benefits exceed marginal costs. Conversely, common resources, which are rival but non-excludable, can lead to overuse, exemplified by the tragedy of the commons, where lack of property rights results in depletion of resources, necessitating defined ownership to internalize externalities.

Gather round and I will tell you a tale. Story time!

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Free Rider Problem

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Free Rider Problem Video Summary

Public goods are essential resources that are characterized by being non-rivalrous and non-excludable, meaning that one person's use does not diminish another's ability to use it, and it is difficult to prevent anyone from using it. However, these characteristics lead to significant challenges, particularly the free rider problem. A free rider is an individual who benefits from a good without contributing to its cost, which can result in public goods being under-supplied in a private market.

For example, consider a fireworks show intended for a small town. If the show costs $500 to produce and each of the 100 residents values it at $10, the total perceived benefit is $1,000. However, because residents can enjoy the show without paying for it, they may choose not to buy tickets, hoping to benefit from the show for free. This behavior exemplifies the free rider problem, where individuals undervalue the good publicly to avoid payment, leading to a situation where the fireworks show may not occur at all.

To address this issue, government intervention is often necessary. The government can impose a tax to fund public goods, ensuring that the total contributions cover the cost of provision. In the fireworks example, if the government taxes each resident $5, it can raise the necessary $500 to hire the fireworks provider, thereby enabling the show to take place. This intervention is justified when the marginal benefit of the public good exceeds or equals the marginal cost of providing it.

In summary, the free rider problem significantly impacts the supply of public goods, necessitating government involvement to ensure that these goods are provided when their benefits outweigh the costs. Understanding this dynamic is crucial for recognizing how public goods function within an economy and the role of government in facilitating their availability.

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Tragedy of the Commons

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Tragedy of the Commons Video Summary

In exploring the concept of the tragedy of the commons, we delve into the dynamics of common resources, which are characterized as rivalrous and non-excludable. A prime example of this is the fish in the ocean; when one person catches a fish, that specific fish can no longer be caught by another. This non-excludability leads to overuse, as individuals exploit the resource without considering the long-term consequences.

To illustrate this concept, consider a fictional narrative titled "Mac Death," which unfolds in five acts. The story begins with Johnny Clutch, a shepherd who moves to a small town known for its lush grazing land. Initially, Johnny thrives as his two sheep graze on the abundant grass, producing high-quality wool that brings him significant profits. However, as news of his success spreads, more shepherds flock to the area, leading to an influx of sheep and a subsequent depletion of the grazing land.

As the pasture becomes overcrowded, the grass is consumed at an unsustainable rate, resulting in barren fields and ultimately the death of the sheep. This narrative serves as a poignant reminder of the tragedy of the commons, where individual self-interest leads to collective ruin. The lack of defined property rights exacerbates the issue, as no single individual has the incentive to conserve the resource.

To address this problem, the concept of externalities comes into play. The externality in this scenario is the cost imposed on society due to the overgrazing of the common land. If property rights were clearly defined—whether through ownership by Johnny or a landlord—there would be a vested interest in maintaining the resource. This would encourage sustainable practices, ensuring that the grazing land remains viable for future use.

Graphically, this situation can be represented by supply and demand curves. The private cost of raising sheep is reflected in the supply curve, but the true societal cost, which includes the negative externality of overgrazing, shifts the marginal social cost to the left of the private cost. Consequently, the market equilibrium, which does not account for this externality, results in an overproduction of sheep, further depleting the common resource.

Ultimately, the tragedy of the commons highlights the critical need for sustainable management of shared resources. By recognizing the external costs and implementing property rights, we can mitigate the risks of depletion and ensure the longevity of common resources for future generations.

Problem

Making customers pay per use of a public good is inefficient because:

It results in deadweight loss

MC of the use of the public good once provided is zero

It uses willingness to pay as a measure of preferences

Both (a) and (b)

Problem

In the case of a shared pasture, what is the rational strategy of herdsmen acting in their own best interests?

Have fewer cows

Buy more cows

Have the same amount of cows as your neighbor

None of the above

Problem

Which of the following environmental issues is not an example of the tragedy of the commons?

Increased atmospheric carbon dioxide due to burning of fossil fuels

Spread of an invasive species

Depletion of fish stocks in the world's oceans

Deforestation

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Here’s what students ask on this topic:

What is the free rider problem in economics?

The free rider problem occurs when individuals can benefit from a good or service without paying for it, leading to under-provision of that good or service. This is common with public goods, which are non-rivalrous (one person's use doesn't reduce availability to others) and non-excludable (it's difficult to prevent anyone from using them). For example, a fireworks show is a public good because people can watch it without paying, leading to insufficient funding if left to the private market. Governments often intervene by taxing residents to ensure these goods are provided, ensuring the marginal benefit exceeds the marginal cost.

How does the tragedy of the commons illustrate the overuse of common resources?

The tragedy of the commons illustrates the overuse of common resources, which are rivalrous (one person's use reduces availability to others) but non-excludable (difficult to prevent access). An example is a common grazing field where each shepherd benefits from grazing their sheep but doesn't bear the full cost of overgrazing. Without defined property rights, each shepherd maximizes their use, leading to resource depletion. This overuse occurs because the external cost to society (depleted grass) isn't considered. Solutions include establishing property rights or regulatory measures to internalize these externalities and manage resource use sustainably.

Why are public goods typically provided by the government?

Public goods are typically provided by the government because they suffer from the free rider problem, leading to under-provision in private markets. Public goods are non-rivalrous and non-excludable, meaning individuals can benefit without paying, reducing the incentive for private entities to supply them. For instance, a fireworks show valued by the community may not be funded privately due to free riders. Governments can tax residents to fund these goods, ensuring provision when the marginal benefit to society exceeds the marginal cost. This intervention helps achieve an efficient allocation of resources and ensures public goods are available to all.

What are some solutions to the tragedy of the commons?

Solutions to the tragedy of the commons involve internalizing the external costs associated with overuse of common resources. One approach is to establish clear property rights, where ownership incentivizes sustainable management. For example, if a grazing field is privately owned, the owner will regulate use to prevent depletion. Another solution is government intervention through regulations or taxes that limit use and promote conservation. Additionally, community management, where local users collectively manage the resource, can be effective. These solutions aim to align individual incentives with societal well-being, ensuring sustainable use of common resources.

How do externalities relate to the tragedy of the commons?

Externalities are costs or benefits of an activity that affect third parties not directly involved in the transaction. In the tragedy of the commons, the externality is the overuse of a common resource, leading to its depletion. For example, when multiple shepherds graze their sheep on common land, each benefits individually but imposes a cost on others by depleting the grass. This negative externality results in overuse and resource exhaustion. Addressing these externalities through property rights, regulations, or community management can help align individual actions with the overall societal interest, promoting sustainable resource use.

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