What do you think is the reason behind the increasing divergence between PMC and SMC?

The increasing divergence is due to the increasing EMC as the output of steel increases. For low quantities of steel produced, the air pollution it causes is well diffused into the environment and is hardly felt. As the output of steel increases, the additional pollutant added into the environment becomes noticeable and can impose external costs such as respiratory problems and additional healthcare costs. As steel output increases further, the air pollution can also cause additional problems like acid rain on top of more serious healthcare problems to third parties. The corrosion of buildings and death of wildlife from the acid rain causes the EMC to be larger compared to lower quantities of pollution when steel output was lower.

True or false? Explain your answers.

(a) When a person buys an apple, other consumers have one less apple to buy and hence his action imposes a negative externality on society.

False. This is not a negative spill-over effects from the consumption of apple. An apple is simply a private good, ie. it is rivalrous in consumption.

(b) Since negative externalities reduce societal welfare, government should act to remove ALL negative externalities to improve welfare.

False. Government should reduce the impact of negative externalities up to the point where the output/consumption is socially efficient and not (necessarily) to point where externalities are removed.

Draw a diagram to show a ban resulting in a bigger welfare loss.

Which measure or policy is the best in correcting market failure caused by negative externalities?

This question serves to ignite a discussion between students. Teachers can provide a context to anchor this question around. For example, tutors can get students to discuss if market based solutions or non-market based solutions are better to address the negative externalities from factory pollution. The pros and cons of each measure should be discussed and one key message could be that there is no perfect policy and the “best policy” is often a combination of measures that complement each other.

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SS=PMC

Qm QS

B A

Quantity

Price

DD=PMB=SMB

SMC

Provide some good examples of positive production externalities.

POSITIVE EXTERNALITIES - Technology spillover (production of new R&D techniques)

Figure 7: External benefit from production of R&D technologies

Define and give examples of PMB, PMC & EMB.

PMB: The satisfaction derived by the consumer from consuming the new technology product. PMC: The cost of developing the technology i.e. cost of production. Typically, this will be a

large amount EMB: Other firms (3rd parties) will benefit from the new technologies developed

Exemplification: NASA space technologies, which was primarily developed to aid in achieving their competencies in space exploration, have been used in other non-space sectors by other industries. (http://spinoff.nasa.gov/Spinoff2012/pdf/Spinoff2012.pdf)

Explain the diagram clearly – the equilibrium output, social optimum output and how the deadweight loss is derived.

In the diagram above, the market equilibrium occurs when private firms account for their private benefit and cost, when PMB=PMC at QE. Due to the presence of positive externalities (EMB) of benefits to economy, the social benefit of producing R&D technologies is higher than the private benefit. Hence, the social equilibrium occurs when society takes into account of the positive externalities when SMB=SMC at QSE (assuming no negative externalities present, PMC=SMC) There is an underproduction of R&D technologies by QSE – QE. This underproduction created a loss to society in the form of total social benefit foregone of YZQSEQE , while only having total social cost savings of only XZQSEQE. This creates a welfare loss or deadweight loss of XYZ.

Other possible examples External benefits from improved training and education External benefits from restoration and use of historic buildings External benefits from development of renewable energy sources

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Draw a diagram to show the impact of ignorance on resource allocation in the context of smoking

Figure 1: Ignorance (or over-rating) of benefits to oneself leads to overconsumption

Can you think of other situations in which one’s perceived benefits are higher/lower than actual benefits?

Do you think all goods with positive externalities are merit goods and those with negative externalities are demerit goods? Explain

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No. of cigarettes smoked

Cost/ Benefit

PMBperceived

QP QA

PMC

PMBactual

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Cancer Screening – Perceived PMB < Actual PMBDrinking Alcohol – Perceived PMB > Actual PMB

No! To qualify as Merit or Demerit goods, goods have to be deemed by the government to be socially desirable or undesirable leading to under or over consumption/production respectively. Not all goods which has spill over effects are deemed by the government as over/under consumed/produced.

Identify the key differences between public goods and private goods.

DistinguishingCriteria

Private goods Public goods

Rivalrous in consumption - Definition: The

consumption of the good by one person diminishes the amount available for another person to consume.

YesExplain the concept of rivalry using an example of one person’s consumption of good/service such as car, running shoes, hair dressing- when one person enjoy

the good, there will be one less available for the others

NoExplain the concept of non-rivalry using an example of street lighting - The consumption of street lighting by

one person does not diminish the quantity or quality available for the next person.

Excludable in consumption - Definition: Means that it

is technically possible or feasible to exclude anyone who has not paid for the good/svc from consuming it once it is produced.

YesExplain the concept of excludability using an example of use of smartphones, computers, big macs- the direct benefits from

the consumption of the good is confined to those who pay for the vaccine

NoExplain the concept of non-excludability using an example of street lightingNo single person has to pay to enjoy the light provided by street lighting. i.e. it is technically impossible / prohibitively expensive to exclude anyone who walks on the street from benefiting from it even though he /she doesn’t pay for it directly.

As an extension, the issue of Provision can be discussed.

`Why can’t workers move from areas of high unemployment to one that has lower unemployment? Is the same situation true for Singapore?

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This is due to geographical immobility. This is less of a problem in Singapore due to the small size of the country.

ADDITIONAL QUESTION:

Do you expect Singapore’s income inequality to worsen this decade?

Possible reason for income inequality to worsen – the continued shifting of focus on new areas of comparative advantage will mean less demand for unskilled/ less skilled workers causing their wages to become stagnant or in more serious cases to lose their jobs. In contrast, the demand for high skilled workers continues to increase raising the wages of high skilled workers.

Possible reason for income inequality to improve – government’s policies implemented can lessen the income inequality eg. Reskilling programme to ensure workers acquire the required skills to take on higher paid jobs, tax rebates for low-income families, etc.