Public Goods

The United States, as well as most of the industrialized world, has a capitalistic system of allocating resources to its citizens via prices and relative scarcity. Over the last two centuries since Adam Smith wrote The Wealth of Nations we have seen relative success in capitalistic markets where the consumer's valuations of individual goods determines price, quantity demanded and quantity supplied. One of the most important tenets in economics is that a good's price should its reflect relative scarcity, both in final products and in factor markets. "For market prices to produce an efficient allocation of resources, it is necessary that the full cost of using each resource is borne by the person or firm that uses it." (Mansfield 503) But there are also some areas in which we experience market failures- places where markets are unable to allocate goods and services to those consumers whose preferences and valuations choose them. One type of market failure occurs when byproducts of market transactions affect, either positively or negatively, parties not directly involved in that specific market. Another type occurs when as individuals we have an incentive not to pay for something that we can receive anyway. In this article, I plan to show that given purely self-interested individuals the creation of public goods via government intervention is the most effective way to control the amount of externalities that occur in the marketplace. I will also describe many ways our government can intervene more effectively.

These two types of market failures are by no means rare or unimportant. One of the chief economic functions of our government is to provide these goods and services or to create artificial incentives, usually through the enactment of laws, to change the amount of byproducts firms produce. Also, as voting constituents in a democracy, it is imperative that we choose which goods and services should be provided by the government, and how important each byproduct of the market is and how we should deal with it. According to Hobbes, even the reason mankind chose to live in a society instead of the perfectly competitive state of nature is based on people giving up their individual rights for the benefit of the group as a whole (Hobbes 17).

The first type of market failure occurs when externalities are produced during normal market operations of certain goods and services. Externalities occur when a third party is affected by the transactions of others. The externality produced is not sold or bought in a market scenario under natural conditions. We will see that it is possible for the government to artificially create a market to try to match the individual and social costs. These externalities can be either positive or negative, and they can also vary in the mode by which they occur- through production or through consumption. This matrix gives some examples (from Mansfield 483):

Production Consumption

Positive: General training for workers Maintained lawn

Negative: Pollution Envy of another's gain.

Under a perfectly competitive model, individual and social costs coincide. But when externalities are present in the actions of either agent, the social value differs from the value to the individual. For example, in a negative externality like smokestack pollution, the individual producer does not account for the marginal social cost of dirtier air into his prices. In this case, the cost of dirtier air is an externality that is not included in the price- and that creates a distortion because dirty air is a social cost that profit-maximizing firms have no incentive to decrease. From this we see that there will be more pollution if we ignore this externality than if we are able to force firms to more accurately account for these costs.

The second of these market failures is allieviated by creating a public good. A public good is a good or service that is difficult or impossible to be restricted to one paying individual or group without being provided for everyone nearby in the same amount whether or not the others pay. Public goods are usually able to be used by one person while it is still possible for another to use it at the same time. This is differentiated from the private goods that we usually identify with, where the producers or firms are able to restrict use to paying customers only. Since it is not in our individual interest to obtain these public goods, we will wait for it to be in someone else's best interest to provide the good or service, and then use it ourselves. This is the free-rider problem, and it is an example of individuals acting rationally, yet as a group they achieve irrational ends. Professor Sullivan's example of the small town of Piermont having the desire to rely on the big town of Hanover to cut its pollution is an example of this. "Thus, when benefits are indivisible, each individual is always motivated to evade his share of the cost of producing them." (Downs 4)

A good becomes a public good when we select an outside agent, usually our government, to provide the good for everyone and to have involuntary taxes levied on the consumers to pay for it. The reason we would prefer this to normal market allocation is that these goods are not in our individual interest to obtain, yet with which society as a whole is better off. Thus society as a whole will convene to decide which goods and services ought to be provided through the government. Examples of public goods include roads, parks, sidewalks, clean water and clean air.