Market Failures, Taxes, and Subsidies: Crash Course Economics #21


Jacob: I’m Jacob Clifford Adriene: and I’m Adriene Hill and welcome
to Crash Course Economics. Jacob: In the last few videos we’ve said
a lot of nice things about how competitive markets allocate resources. You know, they
do a pretty good job. Adriene: But nobody’s perfect. Sometimes
markets get it wrong. Sometimes they fail. Sometimes the byproducts of production make
people sick. Today we are going to talk about those market failures, and how economists
address them. [Theme Music] In 2105, a story made the rounds online about
a University of Maryland professor and an extra credit question: “Select whether you
want 2 points or 6 points added onto your final paper grade. But there’s a small catch…if
more than 10% of the class selects 6 points, then no one gets any points.” So, what would
you do? The question alludes to one of the biggest
problems with free markets: sometimes people have a personal incentive to do something
that is against the collective interests of the group. Obviously, everyone wants at least
some extra credit, but there is also an incentive to get even more points. In this situation,
the professor reported that too many people chose 6 points and no one got extra credit. Let’s say that your local government sent
a similar proposition to every household in your city, “Select whether you want to pay
$20 or $100 to fund the local fire department, but there’s a small catch: if more than
50% of citizens choose $20 there’s not going to be enough money to have a fire department.” This is the free rider problem. Free riders
are people who benefit without paying. They are not necessarily evil, let’s face it,
you probably know someone that’s illegally downloaded Game of Thrones, but they’re responding
to incentives — why pay more, if I can get it for less? If too many people think like this, then we’re
all worse off and we’re going to end up not getting the things we want like fire protection
or a satisfying ending to Game of Thrones. So how do most cities get around the problem
that some people will benefit even if they don’t pay. The city doesn’t ask for money,
they demand money in the form of taxes. The reasoning is that fire protection is so essential
that people shouldn’t be allowed to opt out. Jacob: So things that are for our collective
well being, like fire protection, schools, and national defense are often funded by the
government. When markets alone fail to provide enough of these things, that’s called market
failures. These are often called public goods, but the technical definition of a public good
is anything that has two characteristics: non-exclusion and non-rivalry. Non-exclusion
is the idea that you can’t exclude people that don’t pay. For example, it’s impossible
to limit the benefits of national defense to only people that pay their taxes. People
who pay no federal taxes still get the benefit of protection from bombs, and people who pay
a lot of federal taxes don’t get extra protection. Non-rivalry is the idea that one person’s
consumption of the good doesn’t ruin it for other people. So, public parks are a great
example. You can use it today, I can use it tomorrow; it can be shared. Ideally. If a good or service meets these two criteria
it’s unlikely that private firms will produce it, no matter how essential it is. Street lights and
organizations that track and prevent the spread of diseases are pretty important, and if the government
doesn’t step in, we probably won’t get them. Adriene: The incentive to do what’s best for
you, rather than what’s best for everyone is the root cause of something economists
call the Tragedy of the Commons. This is the idea that common goods that everyone has access
to are often misused and exploited. It explains the cause of most of our environmental problems
like air pollution, deforestation, the killing of endangered species, and overfishing. In many places in the world, there are more
fish being pulled out of rivers, lakes, and oceans than are being born. This is not just
bad for the fish; it’s bad for the people doing the fishing. As these resources are depleted,
fishermen find themselves without a job. So why aren’t they conserving? Allowing fish
to reproduce and generate more fish resources for the future? Well, look at the incentives.
If a few environmentally conscious fishermen decide to give the fish time to spawn, then
some other fisherman will harvest them instead. If you can’t prevent other people from exploiting
the resource, then you have an incentive to exploit it yourself and take as much as you
can, as quickly as you can. But, with everyone following that logic, the
finite resource gets pillaged. The Tragedy of the Commons explains why fish stocks get
depleted, the rainforest get cut down, and why endangered species get hunted for their
hides or horns. There is an entire subfield of economics focused on address and solving
these issues, it is called environmental economics. Jacob: The problem here is that unregulated
markets sometimes don’t produce the outcome that society wants. Remember, sometimes markets
misallocate resources because they don’t have the right price signals. There is no better
example of this than what economists call externalities. Externalities are situations
when there’s an external costs or external benefits that accrue to other people or society
as a whole. When other people are made worse off that’s called a negative externality.
When other people are made better off that’s called a positive externality. Let’s
go to the Thought Bubble. Let’s look at a TV factory that pollutes
a river with toxic chemicals. This is definitely a negative externality. The factory has internal
costs: it has to pay its workers, buy raw materials, pay for energy; and it uses those
costs to determine how many TVs to produce. But there are also external costs associated
with polluting the waterways, like dead fish, contaminated drinking water, and people getting
sick. Those external costs are paid by people downstream, and they are likely to be ignored
by the factory owner. The free market assumes that all the costs associated with producing
TVs are accounted for within the price of those TVs, but, in this case, the market is
wrong. The end result is a market failure because the factory is producing too many
TVs. As for positive externalities. Think of
education. More education is great for you. You’ll likely generate more income and it
makes you more interesting to talk to at parties. But there are also external benefits of your
education. Everyone is actually made better off. With more education you’re more likely be
a positive and productive member of society. And if you earn a higher income, that means
more tax revenue. Now in both cases, negative and positive externalities,
economists often look to the government to step in and solve the problem. For example,
the government could tax the TV factory or subsidize education. In fact, externalities
are the justification for almost everything the government does. When politicians, tax
cigarettes, fund education, subsidize fuel efficient cars, or regulate financial markets,
it’s because they are convinced that free markets alone are not adjusting for externalities. Adriene: Thanks Thought Bubble. We’ve tried
to explain the problem of externalities, now let’s talk about the solutions. When the
government tries to fix externalities they can use regulatory policies or market-based
policies. Regulatory policies are simply rules established
by government decree. Some people complain about regulation. They say, “the government
can’t tell me what to do.” But let’s be honest, it can. The government also spends
a ton of time and money telling you what you can’t do. Don’t drive too fast. Don’t build
a house in Yellowstone. Don’t kill anybody. It seems like the government probably should
regulate some stuff. The question is, “how much should they regulate?” Even people
who adamantly oppose government regulation probably agree that nuclear weapons and nerve
gas shouldn’t be on the shelves at Target. Let’s go back to the TV factory example.
To help solve the pollution externality, the government could ban the use of certain types
of chemicals or set a production quota to limit the production of TVs or regulate what
can be dumped in the river. In the US, the Environmental Protection Agency (EPA) has
pushed for laws to control pollution, and these regulations have worked. Regulation can also create positive externalities.
In some cases, the external benefits are perceived to be so high that the government essentially
takes over the market. Consider education. Most countries have compulsory education which
requires citizens to be educated up to a specific age and the government pays for schools through
taxes. If the government didn’t get involved, all
education would be provided by private schools that would charge tuition; there might not
be enough affordable schools to educate young people. The government funds education because
they think that the external benefits, like literate, well-informed, erudite citizens,
are so high it’s worth forcing everyone to pay. Jacob: Another way that governments try to
solve externalities is with market-based policies. These are policies designed to manipulate
markets, prices, and incentives to correct for market failures. The best examples are
taxes and subsidies. A tax on the production of TVs or on the chemicals the factory is
using will decrease production and limit pollution. Federal grants that help subsidize college education
will increase the amount of education people buy. In general, economists tend to prefer market-based
policies. Take cigarettes. Cigarettes generate high external costs on society. There’s second
hand smoke and there’s higher healthcare costs for everyone, due to smoking related illnesses. The government could force cigarettes companies
to produce less, or just shut them down entirely, but instead they tax cigarettes. The tax drives
up the price, consumers buy fewer cigarettes, and this addresses the negative externality.
Now, this market-based approach has one key advantage over the regulatory approach. Instead
of spending money on enforcing regulations, the government is earning tax revenue that
can be used for purposes. In real life, though, governments often use both policies. In the
US, the government taxes cigarette producers and regulates where people can smoke. It also
restricts how tobacco companies can advertise, and supports anti-smoking campaigns
designed to convince people to quit smoking. Seriously, you should stop smoking. Market-based approaches to reduce negative
externalities are also used to fight climate change. Many economists argue that taxes on
carbon-based fuels like coal, oil, and gas are a more effective way to deal with air
pollution. Adriene: One oft-discussed market-based policy
is emissions trading or “cap and trade.” The government issues pollution permits and
if your factory doesn’t hold one of those permits, it can’t pollute. But companies
can buy or sell those permits. This sets up incentives to go green: if you
can produce without pollution, you can make money by selling your permits. But if you
operate a dirty plant, you have to pay for those extra permits. As controversial as cap
and trade can be among American politicians, it’s interesting to note that it’s already
been used successfully in the US. A cap and trade program to reduce acid rain
pollution — it worked! It cut sulfur dioxide emissions. According to a 2003 report from
the Office of Management and Budget, “the Acid Rain Program accounted for the largest
quantified human health benefits of any major federal regulatory program implemented in
the last 10 years, with benefits exceeding costs by more than 40:1.” Remember that extra credit question? What
if the world’s largest economies were given a similar proposition: “Select whether you
want to decrease your pollution by 5% or 30%, with a small catch; if more than 50% of counties choose
only 5% then climate change will make Earth unlivable.” That simplifies the issue, but it does illustrate
why it’s so hard to address climate change. Individual countries might work to reduce
carbon dioxide emissions, but they can’t prevent other countries from polluting. It’s
the Tragedy of the Commons. In an unregulated global economy, where producers
want to make products as cheaply as possible, there’s an incentive to ignore international
environment to get ahead. Global issues like climate change, human rights abuses, and nuclear
proliferation can’t be effectively addressed if countries don’t work together. But that
requires a lot of trust and a lot of commitment. Jacob: So markets aren’t perfect. There are
many cases when the government should get involved, and there’s even some situations
when the government should just take control. Adriene: The question isn’t “which is
better: free markets or government?” The question is “how can they work together
to make our lives better?” Thanks for watching, we’ll see you next
week. Crash Course Economics is made with the help
of all these fine people. You can support Crash Course at Patreon, a voluntary subscription
service where your support helps keep Crash Course free for everyone, forever. And you get
great rewards. Thanks for watching, and DFTBA!

100 thoughts on “Market Failures, Taxes, and Subsidies: Crash Course Economics #21

  1. There will always be commons that can be abused but a big part of the answer to this is to reduce the commons to the smallest portion without preventing travel. Let people own the beach and to a certain extent, the water. Let businesses own/long-term lease the roads and completely privatize the schools. Let fishing businesses long-term lease fishing privileges in lakes, seas, rivers, and oceans. Let businesses profit off of the national parks by leasing them for commercial profit as is done by many city parks.

    Some exceptions to this privatization may exclude some roads and certain shipping channels, all of the air and most of the forests.

    Is there a role for government regulation? Sure there is! Though, regulation has a generally negative impact on the general quality of life and should be avoided when possible and only embraced after all other methods have failed.

  2. So these people realize that you tax what you don't want and subsidize what you do. So we subsidize the poor and progressively tax the contributors to society. Also cigarettes are taxed and tobacco is subsidized…. I can't even with this keynesian propaganda.

  3. Thank you for that anecdote on the acid rain program – that is fascinating and positive news!

  4. The libertarian would just say “the tv companies should just buy the river then they can pollute their own lake and kill their own lake durh hurh”

  5. Free riders are only a problem with public services in the first place. If all services were both voluntary and optional there would be no free riders. This isn't a problem with markets at all.

    Environmentalists always want to frame problems as belonging to society when they aren't. If fisherman over fish, it will increase the price of fish as supply dwindles and people will eat other less expensive things. Society isn't charged anything, nor is it charged anything when companies "pollute." The people who are effected are those who either own property by the water or are using it for another purpose, and they right to sue the polluter is still there if they are actually effected.

    I can't believe anyone who claims to be able to tech others about economics would use public schools as an example of positive state intervention. So bad schools that we all have to pay for are better than good schools only the students have to pay for? Education is a failure NOW, that is it monopolized. Even if it had failed in a true free market, which it didn't, this would hardly be an improvement and certainly not an economic one.

  6. its game theory you have to choose 6 points because its a strict Nash equilibrium

  7. thank you guys for making these, i can wrap my head around the topic in your 10 min video when i cant in a 2 hr university lecture

  8. So will there be a market failure if i choose not to "subsidize" via Patreon? Or will the voluntary contributions keep my boy Jacob Clifford on the Tube?

  9. What these dumb, clueless "economists" don't understand is that polluting a river is not consistent with a free market economy. No free market capitalist believes that an individual or a company should be able to benefit at the expense of others' property, which in this case, is a river. In fact, it is the government that gives these types of factories permission to pollute a river in the first place. And then they talk about "external costs" of smokers and the healthcare costs that we end up paying for. Well subsidized healthcare is not a function of a free society either. Why are they teaching this nonsense to our kids?!

  10. My microeconomics midterm is tomorrow and this helped more in 12 minutes than my professor has in weeks

  11. There is something you failed to mention about cap and trade with things such as coal. When you tax the coal you essentially raise the price of all products that are created through the consumption of coal. Such as energy. Which is then passed on to the average consumer.

    And when energy prices are raised the average consumer has to spend more of their money on that product since it is essential, and less on other products which in turn hurts other industries. It also hurts the average consumers pocketbook since the average consumer is just getting by living on paycheck to paycheck. Not to mention then when other countries fail to abide by the agreed upon regulation it increases their wealth and standing in the world all the while hurting yours.

    This is one of the paradoxes of the tragedy of the commons. It’s not just all about greed as much as it is about survival. It is why there is no easy answer.

  12. Government is a violent monopoly!!! It should only be used as a last resort knowing that the costs of using government to solve a problem will bring a high costs.

  13. Taxes and regulations cost money to comply with. This has the effect of artificially raising the price floor for products and services when businesses ultimately raise prices to earn the money back. (see CrashCourse #20)

    Subsidies are basically free money given to businesses so that businesses can offer their products and services more cheaply than before. This causes those same businesses to raise prices again. Why? What happened last time their products were too expensive? They were given free money!

    What are two of the most taxed, regulated, and subsidized industries in the USA? Healthcare and education. Prices keep going up and we keep giving them more free money every time.

    The economy is an ecosystem that requires the forces of supply and demand to choose winners and losers. It self corrects. If a shop sells poison food people will stop eating there and it will go out of business. That's how it works.

  14. it is rare to get both sides of the coin on youtube, this is something I value a lot of crash course

  15. No one opposes regulation. Some oppose consumer and environmental protection but would fail if intellectual property laws and infrastructure wern’t regulated. It’s simply corruption.

  16. The government's only job is to protect life, liberty and property. Anything else should be unacceptable no matter the consequences.
    We talk about effectiveness and practical use of government as if it were a tool to better our lives instead of talking about the few things it was originally created to do.

  17. You have 2 options: you can spend 2 dollars a month supporting crash course or you can spend no money at all. There’s a catch though; if less than 15% of people choose not to support crash course than there is no crash course for anyone.

    🤣🤣🤣🤣that’s what I learned today

  18. Crash course economics, Keynesian, leftist propaganda since whenever the hell it was conceived.

  19. Propaganda.. Econimies existed without govt for a long time. Govt requires taxes to pay interest on money borrowed. Our current money is fiat monet or money made through fractionalization. Meaning it is really worth no more than people's belief in it.

  20. So if we were to allow absolute a free-market system some people will starve to death and other will survive. Its like a no rules fight for survival or do we do what we partly do now and have some regulation out of pity for the losers. Should we pity the fool or should we have have a no-mercy system?
     Also think more traditional family base system would favor the no-mercy form of government. Which means you can most of your help from you family unit not the government.

  21. The tragedy of the commons is only true for rivalrous goods. Non-rivalrous goods like software doesn't suffer from this. For example if this YouTube channel gets enough money from donation, than having millions more non donating view will not hurt a bit. But excluding people from Non-rivalrous though laws hurts millions of people right now.

  22. 12.11 into the vid I got annoyed at how fast they talk so I went to playback speed and put all the way down so funny 😂😂

  23. Crash Course Economics missed an opportunity to acknowledge 'gentrification' is a form of market failure.

  24. mmmm….. these videos have a nice little "velvet glove around the iron fist" thing going on.

  25. Free Riders , Public Good: non exclusion , Non Rivilary , The tragedy of the commons , Enviromental Economics , Negative Eternality , Positive Externality , Regulatory Policies , Market based policies .

  26. Climate change doesn't exist. Government regulations are ALWAYS bad. I'm waiting for someone to challenge my opinions.

  27. Okay, I late for this party, but I gotta say this: just a few episode ago you were talking about the inelasticity of gas, now its your example why ptoce co trol dont work… would thing tjis would be the best thing to have price controls on since price dies not influence demand,

  28. Capitalism might not provide affordable schools?
    LOL. Do these people look at history?

  29. Surely cap and trade can only go so far, though? It brings the amount of pollution down to the point of equilibrium and no further?

  30. Yeah… carbon taxes and cap and trade policies would have worked fine if implemented a few decades ago… it's too late for slow action on climate change, though.

  31. is the park a non-rivalrous good? I mean if one person steps in there will be lesser space for the rest? ;/

  32. Better than usual. What I'm used to from this channel is dry, unfunny, and cringe humor. More videos like theses please. Be informative, not hard to watch.

  33. Those game of thrones jokes did not age well considering that most of the fanbase is now preferring to pirate it on the grounds that the show sucks now.

  34. Well I guess we brought this shitty end to game of thrones on ourselves

  35. without governmental regulation, our self destructive human nature fueled by myopic greed is unsustainable and we'd drive ourselves to extinction.

  36. We didn’t get a satisfying ending to Game of Thrones. Too many people illegally downloaded I guess.

  37. Except free market doesn’t exist, corporations have always pretended to be the government. Don’t believe me? Read “A people’s history of the United States” it’s called state capitalism.

  38. What she stated about the Marlyand Professor is really sad actually. That experiment very much may be uncannily similar to how society responds in such situations. Rather than thinking about the collective of who actually require it the most/who would be of most benefit from as far as advancement is concerned, they all thought about themselves, they could easily have just…Had a conversation. and ensure that someone actually did aquire those extra points as opposed to nobody… Just straight up selfishness….lack of perspective… knowledge…wisdom.

  39. coase theorem bitches. the market internalizes externalities efficiently. the government makes them worse or creates externalities that werent there. there is TOO MUCH education.

  40. what happens when government spends $10 to fix a $5 negative externality? something you dont even talk about.

  41. "…or a satisfying ending to game of thrones"
    Yeah, too many free riders…

  42. No one:
    Jacob: I'll talk about this abstract thing that most people won't be able to comprehend right away at the speed of bullets being shot out of a machine gun.

  43. holy bejesus! they predicted the ending of game of thrones !!!!

  44. The free rider problem is exactly why I charge my friends for road and beach trips. On the negative side, I know that simply putting my cost of $10 will reduce my attendance by a significant margin. On the positive side, I know the cost keeps out free riders and that no cost would mean I'd end up paying not only the entire bill, but the entire bill for many more people.

    I think I need to get less poor friends. Thanks, econ!

  45. aside from the lesson, what i would have done for the extra credit question is: got all the results of the whole class and gave a select amount of 6points (under 10%) to those who got lower scores and the 2s to the higher scores. therefore, making it somewhat even?

  46. So… governments exist due to a poor Nash equilibrium that makes everyone worse off… interesting

  47. Unsatisfying ending to GOT had nothing to do with freeriders, it had to do with too much polularity of the show and an inability of the brains of the op the writer, to keep up and control the direction of the show.

  48. The crash course at cruising speed videos..had to watch at 0.9x :))

  49. 2:00 Trust me it wasn't the pirates that made got's ending suck. Lol you guys are great.

  50. Is inflation a market failure? And if yes, does that mean govt failed to create good subsidies?

  51. Economist Palpatine:
    Did you hear the tragedy of commons? It's the story that the producers don,t want you to hear.

  52. serious problem with this, the problem is not that the factory is producing too many TVs. The problem is that the company is polluting a stream, so what does this mean… it means the damage done must be paid for, not reducing the production of goods .

  53. If nuclear weapons were selling at Target, I would've bombed my school already……..

  54. I am upset on how this video mentions things in society that is not related to economics. The biggest example and the thing I'm upset the most about is education, which is supposed to be a separate topic and feature for society. Another reason why I'm upset about this is because I'm supposed to receive college education. Like what this video said (especially at 5:42), education is important for individuals and society!

    I don't know why this video mentions the thing I'm into, even though it should be about how some markets and businesses fail to do thing right, provide something important, or something like that within economics.

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