Exercise 4. Listening from Guide to economics, unit 10 – “Positive externalities”, track 29)

• What is a positive externality? (repeat or write down the definition)
• Which transactions in the list are mentioned as positive externalities?

1. Buying a new house

2. Fixing up an old home

3. Buying books

4. Paying for a course at a local college

5. Joining a gym

6. Going on holiday

Exercise 5. Summarize each subsection of the text (orally):

1. The Business Cycle
2. Public Goods
3. Externalities
4. Information-Related Problems
5. Monopoly and Market Power
6. Income Redistribution and Merit Goods

Exercise 6.

1. Which of the following items of government spending reflect (a) provision of public goods, (b) concern with merit goods, (c) concern with income distribution: (i) police patrols, (ii) old age pensions, (iii) unemployment benefit, (iv) free state primary schools?

2. Which of the following are public goods: (a) clean streets, (b) ambulance services, (c) the postal service? Discuss alternative ways of providing these services.

3. Name the two goods or services you buy from a monopolist. Should the government regulate the price? Does it?

4. Why should the European Commission seek to enforce tough standards reducing pollution of rivers by nitrates used as fertilizers in farming?

Exercise 7.

Compare the content of parts IV-1 and IV-3 by filling up the table:

Government
What does it do?	What should it do?

What conclusions can you draw from this table?

Exercise 8. Write a summary of sections IV-1 and IV-3 of the text.

Optional: Video (Economics TTC, Lecture 13 “Positive Externalities and Technology”)

IV-4. How Do Governments Decide?

The motivations economists ascribe to individuals and firms are simple. Firms are in business to make profits for their owners. Individuals are assumed to choose those combinations of goods that make them best off. These simple assumptions permit economists to explain most consumer and business decision-making.

Government decision-making cannot be explained so simply. Voters express their preferences by electing governments whose job is to make the basic decisions on spending and taxing, pass new laws, and establish new regulatory programmes. Thus, by voting, the electorate gets to express its preferences among alternative policy packages, though not on each issue.

The people who run the government - elected officials and civil servants - are not mere ciphers who simply do the bidding of society. They have their own objectives, in some sense trying like everyone else to maximize their own well-being. They may maximize their own well-being by doing what they believe is good for the public, or they may have much narrower goals, such as getting re-elected or advancing up the hierarchy. A well designed system is one in which the people who run the government are led to pursue the interests of society as they pursue their own goals, just as the invisible hand in competitive markets leads individuals pursuing their own interest to pursue society's interests.

Voting

If everyone were identical and of one mind, public decision-making would be easy. The most important problem that society solves through the political process is how to reconcile different views and different interests. In this section we discuss two features of majority voting.

The first is the paradox of voting, which concerns cases where majority voting will lead to inconsistent decision-making. The second is the median voter result, which shows how public choice will tend to avoid extreme outcomes.

The Paradox of Voting. Table 3-4 shows how voters 1, 2, and 3 rank three possible outcomes A, B, and C. For example, voter 1 likes A best, then B, then C. Let the group choose by majority vote between outcomes A and B. Voters 1 and 3 prefer A to В so the group will prefer A to В by two votes to one. Similarly, the group will vote two to one for outcome В rather than C. Since A is preferred to B and В preferred to C, you might expect the group to prefer A to C. But the first and third columns of Table 3-4 imply that the group would choose С rather than A by two voices to one. When individual preferences are as depicted in Table 3-4 majority voting will choose A over B, В over С; and С over A. Consistent decision-making will not be possible under majority voting.

This is a serious problem. Society cannot necessarily rely on majority voting to lead to consistent decision-making.^[2] It also means that the decisions taken by society may well depend on the order in which it votes on them.