chapter 1.

7
 Class room task: explain the concept of scarcity, choice,
opportunity cost with PPC from the given data(8):
Slope of PPF = -10/100
Combination Gun Butter

A(0,200) 200 0

B(100,190) 190 100

C(250,150) 150 250

D(350,75) 75 350

E(400,0) 0 400
 Short answer questions

⚫ 1 What is meant by ‘ceteris paribus’? (2)

⚫ 2 What are the four factors of production?(1)
⚫ 3 What does a point outside a production possibility
curve illustrate? (1)
⚫ 4 Identify two economic concepts that PPC diagrams can
illustrate.(2)
⚫ 5 What is the difference between a positive and a
normative statement? (3)
⚫ 6 What is the name given to workers specializing in a
particular task?(1)
 Answers
⚫ 1. ‘Ceteris paribus’ means ‘other things being equal’. When
economists are considering the influence of two economic variables,
they will often assume for purposes of simplification that other
influences are not changing.
⚫ 2. land, labour, capital and enterprise
⚫ 3. an unattainable point with existing resources
⚫ 4. two from scarcity, opportunity cost, efficiency
⚫ 5. A positive statement is a statement of fact which can be tested
e.g. He earns 20,000 per month. In contrast, a normative statement
is a statement of opinion, which cannot be proved right or wrong.
E.g. He should earn 50,000.
⚫ 6. division of labour
 Economic structure

⚫ The term economic structure refers to the way in which an economy consists
of various sectors. It is used to show the balance of economic activity, usually
measured in terms of the value of total output, between these sectors.
⚫ The following sectors are recognized:
1. Primary sector: This consists of agriculture, fishing and activities such as
mining and oil extraction.
2. Secondary sector: This term is used to describe the wide range of
manufacturing activities that are found in an economy. Typical examples are:
food processing, textiles and clothing, iron and steel production, vehicle
manufacturing, and electronics.
3. Tertiary sector: This is the service sector and covers a range of diverse
activities such as retailing, transport, logistics, banking, insurance and
education.
4. Quaternary sector: A relatively new term to denote the
knowledge-based part of the economy, especially the provision
of information. Typical examples are scientific research and
product development, computing and ICT.
As economies develop their economic structure changes and
there is a progression from primary to secondary to tertiary
activities.
 Classification of goods and services
Public goods

⚫Public goods are commodities or services that benefit

all members of society, and which are often provided
for free through public taxation. They are characterized
by two important features:

1. Non excludability
2. Non rivalry in consumption
⚫ 1. It must be non-excludable. This means that once the
good has been provided for one consumer, it is impossible
to stop all other consumers from benefitting from the good.
⚫[Link] must also be non-rival. As more and more people
consume the good, the benefit of consuming the product
must not be diminished.
⚫ Consumption of a public good cannot be confined (restricted)
to those who have paid for it so there will be free riders.
People can enjoy the product without paying for it.
⚫ There are a number of goods that can be seen as public
goods. Take the example of a lighthouse.
⚫
⚫Once a lighthouse is built to warn one ship at sea away from
a dangerous area of rocks, then by its nature, this service
will automatically be provided to all ships that sail within a
certain distance of the lighthouse. It is non-excludable.
⚫Equally, the fact that other ships see the light given by the
lighthouse and are warned away from dangerous rocks does
not reduce the benefit that any one particular ship receives
from that warning. It is non-rival.
⚫ Public goods have large external benefits. It may also be non
rejectable. It means that individuals may not be able to
abstain (restrict) from consuming them.

⚫ Examples of public goods:

national health, police service, light houses, flood control
scheme, street lighting, pavement etc.
Cont.

⚫ Public goods will not be provided by the price mechanism

because producers cannot withhold the goods for non-
payment, since there is no way of measuring how much a
person consumes and there is no basis for establishing a
market price.

⚫ As a result, the state must finance the provision of public

goods by the means of taxation.
Quasi public goods
⚫ A good that is closer to public goods than to private
goods, but not fully public goods is called quasi public
goods.
⚫ For example, a national museum, a public cricket pitch,
privately owned beach.
⚫ A seaside beach is available to all those who wish to
use it, it appears to be non- excludable.
⚫ However, it is possible to think of ways of excluding
consumers, privately owned beaches do this.
 Quasi public goods

⚫ Equally the beach is non-rival up to a point.

⚫ If you are the first person on a pleasant beach on a

warm sunny day, it does very little to diminish your
enjoyment of that beach as a few more people arrive to
enjoy the benefits themselves.
 Private goods/ Economic goods
⚫ Most of the goods and services which we consume on a daily
basis are private goods. These goods are those bought and
consumed by individual consumers or firms for their own
benefit. They have two important characteristics:
1. Excludability: It is possible to exclude people from using
a private good. This is normally done through charging a
price. If the price is not acceptable, then that good will not
be consumed. Once a private good has been purchased by
one person it cannot be consumed by others.
2. Rivalry: The consumption by one person reduces the
availability for others. In some ways it seems obvious that
when we purchase food, clothes or a textbook then this
means that fewer of these goods are available for purchase
by others.
 Free goods
⚫We can also recognize what are known as free goods.
These have zero opportunity cost since consumption is
not limited by scarcity. They have no prices, as their
name indicates, no factors of production are required to
produce them.
⚫For example: In some economies, wild fruit and berries
may be gathered or some animals hunted for their meat
from jungle. The air we breathe could also be seen as a
free good along with water in a local river.
 Classwork Task
⚫What is the free rider problem and how is it related
to public goods?
⚫The free-rider problem is a type of market failure
that occurs when those who benefit from public
goods or services (such as public roads, hospitals,
street lights ), do not pay for them or under-pay.
Self assessment task
⚫ Explain, for your economy, whether each of the
following may be described as a private, free, a
public or a quasi-public good:
⚫ the local police service
⚫ a chocolate bar
⚫ oxygen from the nature
⚫ fruits trees in our garden
⚫ a road outside our house
⚫ water from river
⚫ a public cricket pitch
⚫ a museum.
Answer
⚫the local police service: public goods
⚫ a chocolate bar: private goods
⚫ oxygen from the nature : free goods
⚫ fruits trees in our garden: private goods
⚫a road outside from our house: public goods
⚫water from river: free goods
⚫a public cricket pitch: quasi public goods
⚫ a museum: quasi public goods
 Concept of costs
Social cost = private cost+ external costs.
Private costs are paid by the firm or consumer and must be
included in production and consumption decisions
An external cost occurs when producing or consuming a
good or service imposes a cost (negative effect) upon a third
party. If there are external costs (negative externalities) in
consuming a good the social costs will be greater than the
private cost.
Social costs include both the private costs and any other
external costs to society arising from the production or
consumption of a good or service.
 Concept of benefits
⚫ Social benefits= private benefits+ external benefits
⚫ Private benefit is the benefit derived by an individual or firm directly
involved in a transaction as either buyer or seller. The private
benefit to a consumer can be expressed at utility, and the private
benefit to a firm is revenue/ profit.
⚫ An external benefit occurs when producing or consuming a good
causes a benefit to a third party. The existence of external benefits
(positive externality) means that social benefit will be greater than
private benefit.
⚫ Social benefit is the total benefit to society from producing or
consuming a good/service. Social benefit includes all the private
benefits plus any external benefits of production/consumption. If a
good has significant external benefits, then the social benefit will be
greater than the private benefit.
 [Link]
Merit goods

⚫ The state is concerned to increase the consumption of

certain goods which is considered to be highly desirable for
the welfare of the citizens, Such goods are described as
merit goods.

⚫ The best known examples of merit goods are: health,

education, training, insurance, seatbelts etc.
 Merit goods

⚫ In market economy, consumers spending on merit goods

would be determined by the private benefits derived
from them.

⚫ Merit goods have positive externalities so that the social

benefits derived from their consumption exceed the
private benefits.
 Merit goods

⚫ Most of the economists argue that state intervention is

necessary to provide merit goods in sufficient quantity
cause private producers will be able to supply less
quantity under market mechanism.

⚫ It means these goods are under produced through

market mechanism.
Demerit goods

⚫ Demerit goods are those goods which generate negative

externalities. It includes cigarettes, alcohol, and non
prescribed drugs.

⚫ These goods are over consumed in a market system.

Consumers may be unaware of true cost of consuming
them.

⚫ In this case government can restrict their consumption or

reduce total quantity by imposing higher rate of tax and
by providing information about their harmful effects.
 Merit goods, Demerit goods and
information failure
⚫ Governments provide merit goods, since there is likely to be
under production and under consumption of such goods .
⚫ With demerit goods, there is likely to be over production
and over consumption because these are the goods that are
habit forming, relatively cheap and easily available.
⚫ In the case of these goods , it is necessary to understand
that there is information failure to the consumers.
⚫ It is because consumers don’t perceive (become aware of)
quite how good or bad a particular product is for them;
either they don’t have right information or they simply lack
some relevant information.
 Merit goods, demerit goods and value
judgement
⚫ In the case of merit and demerit goods , we have to
enter in the area of value judgement.
⚫ If society is able to say to consumers that they do not
fully realize what is good or bad for them, then we are
accepting that society knows best and has some right to
make such a judgement.
⚫ In effect, we are allowing paternalism ( a situation
where society knows best and has some right to
make a value judgement), it means society will judge
what is or is not good for a person regardless of what
that person may believe.