Nat

ureofEconomi
cs

Economi
csi
sasoci
alsci
ence.

Re-
dev
elopedeconomicsmodel
sar
ebasedonassumpt
ion.Oneofassumpt
ionofbui
l
ding
model
sisceter
ispar
ibus.

Nor
mat
iveandPosi
ti
veSt
atement

Posi
ti
veSt
atement–Thesear
est
atement
soff
act
s.Ex-

1.Bangl
adeshhadaneconomi
cgr
owt
hof5.
2%i
n2020.

2.Af
all
inpr
icewi
l
lusual
l
yincr
easet
hequant
it
ydemanded.

3.I
mposi
ti
onofi
ndi
rectt
axwi
l
lincr
easer
ich-
poorgap.

4.I
fthebanki
ncr
easest
hei
nter
estr
ate,
inf
lat
ionwi
l
lber
educed.

Normat
iveSt
atements-Thesearestatement
sofopi
nion.Theyr
equi
rev
ali
djudgement
.They
of
tenhavewordsl
ikeof,shoul
d,could,mayetc.

1.Gol
dist
hemostpr
eci
ousofal
lmet
als.

2.Thegov
ernmentshoul
dusemonet
arypol
i
cyt
oreducei
nfl
ati
on.

3.Roadpr
ici
ngi
sthemet
hodt
hatgov
ernmentcanuset
oreducer
oadcongest
ion.

4.Ev
eryf
ir
msori
ndi
vi
dual
ensur
ethatt
her
eact
ionsdonotcr
eat
eanyext
ernal
cost
.

Val
uej
udgement
sisv
erycr
it
ical
ini
nfl
uenci
ngeconomi
cdeci
sions.

Scar
cit
y

Wantsareunl
i
mitedbutther
esour
cesar
eli
mit
ed.Ther
efor
e,i
tisdi
ff
icul
ttof
ulf
il
lal
lthewant
s
usi
ngli
mitedr
esources.

Ty
pesofr
esour
ces–

1.Renewableresour
ce–Thesear
eresour
cest
hatdoesnotgetdi
mini
shedbyt
heuseofi
t.
Ex–air,sol
arenergy
.

2.Non–renewableresour
ce–Resour
cest
hatgetdi
mini
shedbyt
heuseofi
t.Ex–Cr
ude
oi
l,
coal,
fossi
lfuels.
Oppor
tuni
tyCost

I
tist
hev
alueofnextbestal
ter
nat
ivet
hati
sfor
gonet
omakeapar
ti
cul
archoi
ce.

I
ndi
vi
dual–

a)
Ifaper
sonbuy
sicecr
eam f
or10$hewi
l
lhav
etosacr
if
icewat
chi
ngci
nema.

b)Theopport
uni
tycostofast
udentt
aki
ngupapar
t-
ti
mej
obi
sthebenef
itf
orr
evi
singbef
ore
examinat
ion.

Fi
rm-

a)
Theopport
unit
ycostofgi
vi
ngdi
vi
dendst
oshar
ehol
der
smaybet
hebenef
itf
rom r
etai
ning
pr
ofi
tfr
om expansi
on.

b)Theopportuni
tycostofabusi
nessoft
rai
ningi
tsl
abour
smaybet
hebenef
itf
rom spendi
ngon
advert
isement.

Gov
ernment
-

a)Theoppor
tunit
ycosttoagovernmentofast
udentt
aki
ngupapar
t-
ti
mej
obmaybet
he
benefi
tofi
ncreasi
ngproduct
ivi
ty.

b)
Theopport
uni
tycostt
oagov
ernmentofbui
l
dingi
nfr
ast
ruct
uremay
bet
hebenef
itf
rom
i
nvest
ingi
nheal
thcar
e.

Pr
oduct
ionPossi
bil
i
tyCur
ve(
PPC)
I
fthecount
ryi
soperat
ingatt
hepointB,
C,D;i
twillbeusi
ngi
tresourcesver
yeffi
cient
ly.However
,
i
fthecount
ryi
snotusi
ngtheresour
ceseffi
cient
lyitwi
ll
beoperat
inginsi
dethecurvelikepoi
nt
A.

I
tisdi
ffi
cul
ttoachi
evepoi
ntXasthecount
rydonothav
eenoughr
esour
cest
oachi
evei
t.
However,t
hecountr
ycanachi
evepoi
ntXinlongr
un.

ReasonswhyPPCmayshi
ftout
war
d–

1.
Migr
ati
onofpeopl
efr
om abr
oad

2.
Economi
cgr
owt
h

3.
Impr
ovementi
ntechnol
ogy

4.
Gov
ernmentpr
ovi
deseducat
ionandt
rai
ningt
opeopl
e

ReasonswhyPPCmayshi
fti
nwar
d–

1.
War

2.
Migr
ati
onofpeopl
eoutoft
hecount
ry

3.
Nat
ural
disast
ers

4.
Recessi
on
Rel
ati
onbet
weenPPC&Oppur
tuni
tycost–

Theoppor
tuni
tyCostofi
ncr
easingthepr
oduct
ionofcapt
ial
goodsf
rom 19t
o32uni
tswoul
dbe
afal
li
nconsumergoodfrom 32to26uni
ts.

Opppor
tuni
tycosti
ncr
easeswi
thhi
gherl
evel
ofpr
oduct
ionofconsumergoods.

ConsumersGoods–Goodt
hatsat
isf
yconsumerwant
sdi
rect
ly.Ex-Tv(
Dur
abl
e),
Appl
e(Non-
dur
able)
Capit
algoods–Goodst
hatdonotsat
isf
yconsumerwant
sdi
rect
lyr
atherusedf
orpr
oduct
ion
ofconsumergoods.

I
mport
anceofcapt
ial
good:
capi
tal
goodl
i
kemachi
nemayi
mpr
ovepr
oduct
ivi
tyoft
hef
ir
ms.
Machi
necanrun24hour
s.

Di
vi
sionofLabour

Whenaj obi
sbrokendownint
roanumberofsev
eral
oper
ati
onsucht
hateachoper
ati
oni
sthe
speci
fi
ctaskofoneindi
vi
dual
.

Forex-I
nthepr
oducti
onoftabl
esomepeoplemayspeci
ali
seincut
ti
ngt
hewoodandother
s
mayspecial
i
seinassembl
i
ngpar t
s.And,
yetot
her
smayspeciali
sei
npai
nti
ngt
hetabl
e.

Speci
ali
sat
ioni
nvol
vesf
orcommonsi
mpl
etaskper
for
mingov
erandov
eragai
n.

Adv
ant
ages–

1.
Incr
easedPr
oduct
ivi
ty

2.
Simpl
emachi
necanbei
ntr
oduced

3.
Lesst
rai
ningcost

4.
Lessmov
ementbet
weenj
obs

Di
sadv
ant
ages–

1.
Incr
easedbor
dem

2.
Int
erpendence

3.
Incr
easedunempl
oyment

4.
Lossofcr
eat
ivi
ty

Ev
aluat
ion–

1.
Div
isonofl
abouri
smai
nlygoodf
ort
hef
ir
mst
hant
hel
abour
s.
Money

Moneyi
samedi
um ofexchanget
hati
saccpet
edbyal
lasal
egal
tender
.

Char
act
eri
sti
csofmoney–

1.
Accpet
abl
e

2.
Por
tabl
e

3.
Div
isabl
e

4.
Dur
abl
e

Funct
ionsofmoney–

1.
Medi
um ofexchange

2.
Iti
sassi
gnedbyt
hecent
ral
bankonbehal
foft
hegov
ernment
.

3.
Measur
eofv
alue

4.
Stor
eofv
alue

5.
Meansofdef
fer
edpay
ment

Whenacount
ryi
ndi
vi
dual
sspeci
l
iase,
theyexchangeofgoodswi
thot
herpeopl
esorcount
rys
usi
ngmoney.

Fi
nanci
alMar
ket

Fi
nanci
alMar
keti
sinplaceorsyst
em thatal
lowsbuyersandsel
l
erst
otr
adefi
nanci
al
i
nstr
ument
sli
kebonds,
securi
ti
es,int
ernati
onalcur
renci
esandcommodi
ti
es.

BondMar
ket–I
tisamar
ketpl
acewher
einv
est
orsbuyandsel
ldeadsecur
it
ies.

StockMar
ket–I
tisanymar
ketpl
acewher
etheshar
eofpubl
i
cli
mit
edcompani
escanbe
tr
aded.

Rol
eofFi
nanci
alMar
ket–

1.ToFaci
l
itat
eSav
ings–Thebankswi
l
luset
hismoneyt
olendt
obusi
nessesandot
her
 borr
owers.I
nret
urnt
hebankswi
l
lrecei
vei
nter
est
,apor
ti
onofwhi
chwi
l
lbegi
vent
o
deposi
tor
s.

2.ToProvi
deLoans-Fi
rmsmaynothav eadequat
emoneyfori
nvest
ment.These
busi
nesseswi
llpayi
nter
estt
othebanks,whi
chwil
lbet
hemoneyearnedbyt hebank.

3.Toprovi
demarketequiti
es–Buy er
smaybuyshar efrom st
ockexchange.The
shar
ehol
derswil
lreceiv
edi v
idendsfrom theprofi
tofthefir
ms.Ift
heywantsharecan
al
sobesoldint
othemar ket
.Thus,theseshareholdersmaytakecapi
talgai
nfrom sel
lof
shar
es.Hence,peoplearemor ewill
ingtobuyshar esandfir
msgetthechancetor ai
se
fr
eshcapit
alf
orexpansion.

4.Toprovi
defor
wardmar keti
ncurrenci
esandcommodi ti
es–Aforwar
dmar ketisa
marketpl
acef
orsetti
ngthepri
ceoff i
nanciali
nstr
umentsf
orf
utur
edeli
ver
y .Ther
efor
e,
thef
orwardmarkethel
pstoreducepricevolat
il
it
y.

5.Tofaci
li
tat
etheexchangeofgoodandservices–Sel
l
erswil
ldel
iv
erthegoodstot
he
tr
anspor
tagenci
esandt hebuyerswil
lmakepayment
stothei
rbankaccount
s.So,
they
doesnothaveanyphysi
calcontact
.

Mar
ketFai
l
urei
nFi
nanci
alMar
ket–

MoralHazard–Iti
sasit
uati
onwher
eindi
vi
dual
soranor
gani
zat
ioni
spr
otect
edf
rom t
hei
r
consequencesoft
hei
ract
ions.

Theyknowt
hatsomeoneel
sewi
l
lpayf
oranypr
obl
em t
hatoccur
s.Ther
efor
e,t
heymayt
akeun-
dueri
sk.

Forexampl
e;abankmayt akei
nsuranceagai
nstanyl
ossthatmayoccur.Theref
ore,thebank
managermayinvestt
hemoneyt hathasbeendeposi
tedbythedeposi
tor
si nveryri
skyproj
ects
,asthebankmanagerknowsthattheinsur
ancewil
lbecompensateforanylossthatmay
occur.

MoralHazar
doccur
sasther
eisasymmetr
icinf
ormat
ioni
nthemar
ket
.Thati
sthebuy
ershav
e
di
ff
erentamount
sofi
nfor
mati
onthatt
hesell
er.

I
mpactofmor
alhazar
dont
hei
nsur
ancemar
ket–

1.Consumer
s–I
nsur
edwi
l
lhav
etopaymor
epr
emi
um duet
othemor
alhazar
ds.

2.Pr
oducer
s–I nsur
ancecompani
eswi
l
lhav
emor
epr
ofi
tast
heycant
akeadv
ant
ageof
moral
hazar
ds.

3.Wor
ker
s–Thewor
ker
swi
l
lhav
egr
eat
erj
obsecur
it
iesandhi
ghersal
ari
es.

4.Gover
nment–I
fthei
nsur
edsuf
fer
s,t
heymayber
eluct
antt
oinv
est
.Thus,
theeconomi
c
gr
owthmayfal
l
.
I
mpactofmor
alhazar
dont
hebanki
ngi
ndust
ry–

1.Consumers–Asthebanksstar
ttaki
ngi
nsuranceagai
nstt
heirloss,
thei
rcostof
pr
oducti
onwil
li
ncrease,
sotheymayrai
seinter
estr
atesonloans.

2.Pr
oducer
s–Banksmayseeaf
all
int
hei
rcl
i
ent
s.Thus,
thei
rpr
ofi
tmaydecr
ease
ov
ert
ime.

3.Wor
ker
s–Bankempl
oyeemayear
nhi
ghl
yinshor
trunbutmaybeaf
fect
edi
nthel
ong
r
un.

4.Gover
nment–Duetomoral
hazards,i
fthebanksult
imat
elyr
aiset
hei
rint
erestr
ate,
the
i
nvest
mentint
heeconomywil
lfal
l.Asaresul
t,aggr
egat
edemandintheeconomywi l
l
fal
l
.

Specul
ati
onandMar
ketBubbl
e–

Specul
ati
on–Itoccur
swhenaneconomi
cagentbuyorsel
lgoodswi
thexpect
ati
onoff
utur
e
pri
cechangesi
nordertomakepr
ofi
t.

Often,
duet
othespecul
ati
vemoti
veamarketbubblemaybecr eated.Itoccur
swhentherei
s
ri
seindemandcausi
ngthepr
icet
oincr
easebeyondcert
ainlevel
.Ther easonsfori
ncr
easei
n
demandmaybepeer-pr
essur
e,emoti
onsetc,
rathert
hatrat
ionaldecisionmaking.

Howev er,
thebubblemaycol lapse.Thismaybebecausesomeonemayf i
nall
yst
artt
oselland
maycr eat
eapani cinthemar ket.Asar esult,
thepri
cemaycol
lapse.Ther
efore,
peoplemay
havethebuyt hegoodatv eryhighpri
ceandnowwoul dhav
etosellatver
ylowpri
cemaking
si
gnif
icantlosses.Thus,peoplemayr eluctanttoi
nvest.

I
mpactofMar
ketBubbl
es–

1.Consumers-Duet
othemar
ketbubbl
es,
sharehol
dersmaysuff
er.Theshar
eholder
swill
buytheshar
eataver
yhi
ghpri
ceandwil
lsel
ltheshareatal
owpr i
ce,maki
nglosses.

I
fpeopl
ebuyhousesataver
yhighpr
iceandt
heymaysel
lthehouseatv
eryl
owpr
ice
duet
ocoll
apseofhousi
ngmarket
.

2.Fi
rms–Thepr oducersi
nthehousi
ngmar ketwi
llsuf
fer
,whenthehousepr i
cef
all
s.Thi
s
i
sbecausetheconstr
ucti
onmateri
alsandlabor
smaybecomev er
ycostlyt
henthe
housepr
iceri
ses.Hence,
busi
nesseswill
notbewi l
li
ngtoi
nvestinthehousi
ngmarket.

Busi
nessesmaynotbeabl
etor
aisef
undbyi
ssui
ngshar
esaspeopl
emayber
eluct
ant
toi
nvest.
 3.Wor
ker
s–Whent
heconst
ruct
ionf
ir
msmakel
ossest
heymayl
ayof
fsomel
abor
sorcut
t
hei
rwages.

Int
hesharemar
ket
,ast
hebusi
nessmaynotbeabl
etor
aisef
inance,
theymayl
ayof
f
somelabor
s.

4.Gov er
nment–Ifthesharemar ketorhousi
ngmarketcol
l
apses,peopl
ewi
ll
ber el
uct
ant
toinvest
.Asaresult
,aggregat
edemandi ntheeconomywil
lfal
lcausi
ngafal
li
n
economicgrowthinthecountr
y .

Thegov
ernmentwi
l
lhav
elesst
axr
evenueast
hebusi
nesswi
l
lbel
esspr
ofi
tabl
e.

Demand&Suppl
y
RESUME
Funct
ionsofPr
iceMechani
sm –

1.Signal
i
ngdev ice–Whent hepriceofaproductincr
easesinthemarket,i
twouldsi
gnal
totheproducersthatther
eisexcessdemandi nthemarket.So,
theproducer
swould
i
ncreasetheirproduct
ion.

2.I
ncenti
vedevi
ce–Ifhepri
ceofaproducti
ncr
easesint
hemarket
,thef
ir
mswi l
lhav
e
moreprof
it
.Ther
efor
e,t
hesefi
rm woul
dwanttoincr
easet
hei
rinv
estmentatt
imeshigh
pr
ices.

3.Rati
oningdev
ice–Ifthedemandforapar t
icul
arpr
oductsuchasPCincreases,
the
producer
swil
lemploymorelabor
s,investmoremoney,rentmor
elandtoproducePCs.
Hence,moreresour
ceswil
lbeall
ocatedtoproduct
ionofPCs.

ConsumerSur
plus–Itisthedif
fer
encebet
weenaval
ueassi
gnedbyconsumer
sonapar
ti
cul
ar
pr
oductandmarketpr
ice.Iti
sareaabov
etheDemandCur
ve.

ProducerSur
plus–Itist
hedi
ff
erencebetweenthemarketpr
iceandt
hepr
oducer
spr
ice.I
tis
theareaabovetheSuppl
yCur
veandt hemarketpr
ice.
Howchangesi
nsuppl
yanddemandmi
ghtaf
fectconsumerandpr
oducersur
plus–

Suppl
yIncr
eases–

PS1= DEPe

PS2= BCP1

CS1= AEPe

CS2= ACP1

CS= PeP1EC
Suppl
yDecr
eases–

P S2

X S1

p1 w

p2 Y

PS1= ZP1Y

PS2= VP2W

CS1= XP1Y

CS2= XP2W

CS= P1P2YW

DemandI
ncr
eases–

A S

P2 Y
B
P1

D2
C
D
 Q

CS1= P1AB

CS2= P2XY

PS1= P1BC

PS2= P2YC

PS= P1P2YC

DemandsDecr
eases-

P
Z

W S

P1 Y
V
P2

D1
X
D
Q

CS1= ZP1Y

CS2= WP2V

PS1= XP1Y

PS2= XP2Y

PS= P1P2YV
Tax&Subsi
dy

Tax–Taxi
scompul
sor
ypay
mentt
hatt
hebuy
ershav
etomakef
orgoods.

I
ftaxi
simposed,
thecostofpr
oduct
ionf
orpr
oducer
sincr
eases,
thus,
suppl
ydecr
eases.

Rul
es–

1.Thev
ert
ical
dist
ancebet
weent
wosuppl
ycur
vei
sTaxr
evenue.

2.Thev
ert
ical
dist
ancei
stakenatt
henewequi
l
ibr
ium quant
it
y.

Subsidy–Subsi
diesar
egr
ant
sgi
venbyt
hegov
ernmentt
othepr
oducer
stor
educet
hei
rcostof
producti
on.

I
fsubsi
dyi
sgi
ven,
thecostofpr
oduct
iont
othepr
oducer
sfal
landsuppl
yincr
eases.
Fig:
 Speci
fi
cSubsi
dy

Gov
ernmentI
nter
vent
ion

Tax Subsi
dy

Specif
ic Adv
alor
em Speci
fi
c Ad
val
orem

Speci
fi
c:Thet
axorsubsi
dyi
simposedperuni
tofout
put
.

Adv
alor
em:
Thet
ypeoft
axorsubsi
dyt
hati
sappl
i
edonv
alueofgoods.

Fi
g:Adv
alor
em t
ax
Duet
othedi
ver
gentshi
fti
nthecur
ve,
itbecomesi
nel
ast
ic.

Thebur
denoft
het
axwi
l
lfal
lmor
eheav
il
yonconsumerr
athert
hant
hepr
oducer
.

Fi
g:Adv
alor
em subsi
dy

Gov
ernmentI
nter
vent
ion

Reasonwhypr
icef
luct
uat
essi
gni
fi
cant
lyi
ntheagr
icul
tur
almar
ket–

1.I
nel
asti
csupply–Demandincr
easesduetouseofagr
icul
tur
algoodi
nalt
ernati
ve
i
ndust
ri
essuchascropsusedasbio-
fuel
.Landsar
eusedforener
gyr
esourcesleadt
o
f
oodinsecur
it
ies.

Evaluati
on–Ifthebi
o-f
uel
isusedatl
argeamountmaycr
eat
epr
obl
em suchas
deforest
ati
on.

2.I
nel
ast
icDemand

Ef
fect
soft
hechangesi
nthepr
iceofagr
icul
tur
e–

1.Fal
li
nst
andar
dofl
i
ving

2.Fal
li
ninv
est
ment

Whyt
hegov
ernmenti
nter
vet
e–

1.Tost
abi
l
izepr
ice

2.Tost
abi
l
izef
armer
spr
ice
 3.Tor
educeexpl
oit
ati
onofmonopol
i
es

Met
hodsofgov
ernmenti
nter
vent
ion–

Gov
ernmenti
nter
vent
ion

Maxi
mum Mi
nimum Pr
ice I
ndi
rect Subsi
d Extensi
on Tradeabl
e Stat
e Pr
ovisi
onof Regul
ati
on
y ofPropert
y Poll
uti
on Provi
sion I
nfor
mat i
on
ri
ghts ofpublic

1.Maxi
mum Pr
ice– Amaxi
mum pr
icei
sal
egal
l
yimposedpr
iceabov
ewhi
chpr
oducercannot
sel
l.
-Formaxi
mum pr
icet
obeef
fect
ive,
itmustbesetbel
owequi
l
ibr
ium pr
ice.

-Thesear
eusual
l
ygoodswi
thposi
ti
veext
ernal
i
ties.

-Themaximum pr
iceregulat
ionmayalsoi
mpactonr
entmar
ket
.Thi
smayhel
ptopr
event
monopol
iesfr
om expl
oiti
ngconsumers.

-Maygener
atemor
erev
enuef
ort
hef
ir
ms.

-I
mpactonconsumerandpr
oducersur
plus.

-Cont
ract
ioni
nsuppl
y,f
ir
msmayr
educei
nvest
ment
.

-Excessdemand(
Shor
tage)
.

Ev
aluat
ion–

1.
Fir
msmaysi
mpl
yreducequal
i
tyofpr
oduct

2.
Magni
tuedofmaxi
mum pr
ice

3.
Ther
evenuef
orf
ir
m dependsont
hePED.

4.
ThePESmaybei
nel
ast
ici
nshor
trun.

5.
Timeper
iod–Themaxi
mum pr
iceneedt
orev
iewedov
ert
imewi
thi
nfl
ati
on.

6.
Inf
orcementcost

7.
Ther
ewi
l
lbecor
rupt
iont
oav
oidmaxi
mum pr
ice

8.
Dependsont
hehousehol
dincome.
2.Mi
nimum Pr
ice–I
tist
hel
owestpr
iceatwhi
chf
ir
m wi
l
lsel
lthei
rpr
oduct
.

-I
tisusedt
opr
otectpr
oducer
sagai
nstl
owi
ncome.

-Encour
agei
nvest
mentast
hef
ir
msgener
atemor
epr
ofi
t.

-Consumer
sfaceshi
gherpr
ices.

-Pr
oducerext
endt
hei
rsuppl
y;cr
eat
ionofsur
plus(
excesssuppl
y)

-Thegov
ernmentwi
l
lhav
etospendmoneyt
obuyt
hesur
plus,
ifi
tisami
nimum guar
ant
eed
pri
ce.

-Pr
oducer
’si
ncomei
ncr
eases.

Ev
aluat
ion–

1.
DependsonPED&PES.

2.
Magni
tudeofmi
nimum pr
ice.

3.I
fthemini
mum pr
icei
sappl
iedonf
oodstuf
f,t
heexcesssupplyoffoodstuffwi
llbest
oreby
thegover
nment
.However,
thi
smaynotbeeat
able.I
twil
lreducetheall
ocat
iveeff
ici
ency
.

4.
Incr
easescostf
ort
hegov
ernmentofst
ori
ngst
ocks–I
ncr
easedr
ent
,secur
it
y,i
nsur
anceet
c.

5.
Oppur
tuni
tycostf
ort
hegov
ernment
.
3.I
ndi
rectTax–I
ndi
rectt
axi
sthet
axi
mposedont
hepur
chaseorsal
eofgoods.

-Duet
oindi
rectt
ax,
thecostofpr
oduct
ioni
ncr
easesr
esul
tsadecr
easei
nsuppl
y.

-Pr
oducerSur
plusandconsumersur
plusdecr
eases.

-Bur
denonpr
oducerandconsumer
.

-Fal
li
nnegat
iveext
ernal
i
ties.

-Gov
ernmentt
axr
evenuei
ncr
eases–usedt
osubsi
diesgr
eent
echnol
ogi
es.

Ev
aluat
ion–

1.Magni
tudeoft
ax

2.DependsonPED&PES.

3.I
ncr
easesr
ich-
poorgap.

4.Dev
elopmentofi
l
legal
orbl
ackmar
ket
.

5.Di
ff
icul
ttosetamonet
aryv
aluet
otheext
ernal
i
ties.
4.Subsi
dy–Subsi
dyar
egr
ant
sgi
vent
opr
oducer
.

-Duet
osubsi
dy,
thecostofpr
oduct
ionwi
l
lfal
l
,incr
easi
ngt
hesuppl
y.

-Benef
itt
othepr
oducerandconsumer
.

-I
mpactonconsumer&pr
oducersur
plus.

-Subsi
disi
ngr
enewabl
eener
gywi
l
lhav
esust
ainabl
eeconomi
cgr
owt
h.

Ev
aluat
ion–

1.Magni
tudeofsubsi
dy.

2.DependsonPED.

3.Dependonhowef
fi
cient
lysubsi
dyi
sbei
ngut
il
ized–Busi
nessesmaymi
suset
hef
und.

4.Oppor
tuni
tycostf
ort
hegov
ernment
.

5.I
tisdi
ff
icul
ttosett
hev
aluef
ort
heext
ernal
i
ties.
5.TradeablePol
l
uti
onPermit–Thegov
ernmentwi
llhavet
osetaopti
mallev
elofpol
l
uti
on,
thi
s
wil
lbedividedamongdi
ff
erentf
ir
msinthei
ndust
ry,
inthefor
m ofper
mit
.

Theef
fi
cientfi
rm wi
l
l pol
l
ut el
esst
hantheper
mit,
whereas,t
heinef
fi
cientf
ir
mswi l
lpol
lut
e
moret
hant hepermi
t.So,thei
neff
ici
entwi
l
lhavetobuytheper
mitfr
om theeff
ici
entfi
rms.

Adv
ant
ages–

1.MarketMechanism –Thepollut
ingfi
rmshastobuyaddit
ionalper
mit
s,theircostof
product
ionwill
incr
ease.Ontheotherhand,
effi
cientf
ir
mswillbeabl
etosellexcess,sot
hei
r
costofproducti
onwil
lfal
l.So,
allt
hefir
mswi l
lhavetothei
ncenti
vetor
educepol l
uti
on.

2.I
ncreaserev
enuefort
hegov
ernment–Bysell
i
ngthepermit
s,t
hegov
ernmentrev
enuewill
i
ncrease.Therev
enuemaybeusedt
osubsi
dizeenv
ironmentf
ri
endl
ymethodsofpr
oduct
ion.

Ev
aluat
ion–

1.Magnit
udeofPermit–Ift
hepermitsetbythegov
ernmenti
shi
gh,thepol
lut
ionwi
llnotbe
decr
easedsi
gnif
icant
ly.Ont
heotherhand,i
ftheper
miti
ssetl
ow,thepol
lut
ioncont
rolwil
lbe
moreeff
ecti
ve.

2.I
ncreasedmonit
ori
ngcost–Thelevel
ofpoll
uti
oncr
eatedbyeachfi
rm wil
lhavet
obe
monit
ored.Ther
efor
e,thegov
ernmentwil
lhav
etoemployinspect
orst
odeterminet
hel
evel
of
pol
lut
ion.

3.Dif
fi
cul
tyofmeasuri
ngexternali
ti
es–I ti
squit
ediff
icul
ttomeasur
ethelev
el ofpol
lut
ion
creat
edbyeachfi
rm.Apartf
rom t hat
,iti
salsodi
ffi
cul
ttodeter
minethel
evelofpoll
uti
on.
Hence,t
hemeasureisqui
teineffecti
ve.

6.Extensionofpr opert
yrights– Aper sonmayhav epropertyri
ght
sov erhisownpr oper
tyl
ike
buil
ding.So, i
fat r
uckhitsabuildinganddamagest hewall ,
thepersoncancl ai
m compensati
on
fr
om t hetruckholder.Howev er
,ifatreediesduet oexcessivepoll
uti
on,evenoutbur nby
dif
ferentroadv ehicl
es,t
heowneroft hetr
eecannotcl aim anycompensat i
onf r
om theroad
tr
anspor t
sast hepr oper
tyright
si snotestabl
ished.Therefore,
thepropert
yr i
ghtshavetobe
establi
shed.

Onewaymaybetochar
geeachofthevehi
clesf
ort
hepol
l
uti
on,
thi
smaybeusedt
o
compensat
ethef
ir
mthathav
esuff
er.

Adv
ant
ages–
1.Nogov
ernmentI
nter
venti
on– I
ftheext
ensi
onofpr
oper
tyr
ight
swor
kswel
l
,thegov
ernment
woul
dnothavet
ointer
vene.

I
fthepoll
uter
sandsufferedcanbecompensat
ed,
thegov
ernmentwoul
dnothav
etoi
nter
fer
e,
t
hiswil
li
ncreaseef
fi
ciency.

2.I
ncreasesSust
ainabil
i
ty–Thereisabet
terl
i
kel
i
hoodt
hatpr
oper
tywi
l
lbemanagedcar
eful
l
y
toensureit
savai
l
abili
tyfort
hefut
ure.

Di
sadv
ant
ages–

1.Compl exPr
ocedure–I twi
ll
beverydiffi
cultf
orthegovernmentt
oidenti
fythethousandof
poll
utersandsuff
erer
s.Itwoul
dbev erydif
ficul
ttocoordi
nateamongallt
hisparti
es.Moreov
er,
somepeopl emaysuffermorethanothers.Theref
ore,i
twouldbeextr
emelydiff
icul
ttoasses
theextendofthecompensati
on.

2.Ident
if
ythesourceofdamage–Itwoul
dbev er
ydiff
icultf
ort
hegovernmentt
oident
if
ywhich
fi
rmshav eact
uall
ydamagetheenvir
onment
.Theref
ore,thegov
ernmentmaynotbeableto
assessthelev
elofcompensat
ion.

7.Regul
ati
ons–

Exampl
esofr
egul
ati
onsmayi
ncl
ude–

-healt
handsaf
etyatwork(workpl
aceshoul
dbecl eanandshouldbesafefortheworkers.So,
fi
rmshavetopr
ovidefi
reext
ingui
sher
s,pr
otect
iveclot
hing,
propervent
il
ati
on,properwashroom
faci
li
ti
es)
.

-Duetoregul
ationssuper
stor
esmayhav
etoadoptf
airt
radepol
i
cies(payt
hesuppl
i
ersabov
e
themarketpr
ice).

-Useor
gani
cpr
oduct
s.

-Payt
hel
aboratt
henat
ional
mini
mum wager
ate(pay
ingabov
emi
nimum wager
ate)
.

Therefor
e,t
hefir
mswi l
lhavetopr
ovi
demorefaci
li
ti
es,duet
oregul
ati
on,
hencet
hecostof
producti
onwil
li
ncrease,
leadi
ngtoafal
li
nsuppl
yinthemarket
.
Adv
ant
ages–

1.Si
mpletounder
stand–I fcar
sabove20year
sol
darenotal
lowedont heroad,peopl
ewho
havecar
sthatar
eregist
eredabove20year
sshoul
dnotdr
ivet
heircarontheroad.

2.Buil
dawarenessaboveexternal
it
ies–I
far egul
ati
onsay sthatpubl
icsmoki
ngisband,
i
ncreasesawarenessaboutpassiv
esmoking.Ont heotherhand,aregul
ati
oni
stakentosental
l
chi
ldr
entoschool.Itwi
ll
establ
ishtheext
ernalbenefi
tsofeducati
on.

Di
sadv
ant
ages–

1.Itmaycreateablackmarket–I
fthegov
ernmentdi
scour
agescert
aineconomi
cacti
vi
ti
es,
theref
ore,
someconsumer sandfi
rmsmaycarryoutt
heact
ivi
tywi
thouti
nformi
ngthe
government.So,
itwil
ldepr
iveoft
axrev
enue.

2.Increasedmonit
oringcost–Thegov
ernmentwil
lhav
etoemployi
nspect
orsi
denti
fythe
peoplewhobr okentheregul
ati
ons,
sot
hatfi
nescanbeimposedont
hem.Itwil
lal
soincrease
theinspecti
oncosts.

Ev
aluat
ion–

1.Dependsonhowstr
ictt
her
egul
ati
onis–Iftheregul
ati
onarenotmai
ntai
nedinastr
ict
manner,peopl
ewi
ll
keeponcr
eati
ngnegat
iveexter
nali
ti
es,sogov
ernmentwi
ll
fail
toaddressi
t.

Mar
ketFai
l
ure

Mar
ketf
ail
ure–Whent
hef
reemar
ketf
ail
stoal
l
ocat
eresour
cesef
fi
cient
ly.

Mar
ketf
ail
ure
Ext
ernal
cost Ext
ernal
Benef
it Asy
mmet
ri
cinf
ormat
ion Publ
i
cGoods Mor
alHazar
d Specul
ati
on&
Bubbl
es

1.Publ
icGoods–Publ i
cgoodsarechar
acter
izedbyt
hef eatur
esofnon-ri
val
ryandnon-
excl
udabi
li
ty.Exampl
esofpubl
icgoodsincl
udestr
eetl
ight,nat
ional
defence,publ
i
cfi
rewor
ks
etc.

Thereshoul
dnotbeanycompetit
ioni
ntheprov
isi
onofthesegoods.Thepubl
i
cgoodhav
eto
prov
idedatzer
opri
ces.So,
thatnonwil
lbeexcl
udedfr
om buyingi
t.

I
fthepubl
icgoodsar
epr
ovi
dedbyt
hepr
ivat
esect
or,
theywoul
dbeunder
prov
idedduet
othe
f
ree-
ri
derprobl
em.

I
fthesegoodareprovi
ded,itwi
ll
bediffi
cul
ttost
oppeopl
efr
om consumi
nggoodsf
reel
y(I
twi
l
l
r
equirest
ateofpr
ov i
sionofpubl
icgoods).

2.Asymmetri
cinfor
mation–Itoccur
swhenonepar
tyhasmoreinf
ormati
onthant
heother
part
y.Usual
l
y,thesel
ler
shavemor ei
nfor
mat
iont
hanthebuy
ers.Ther
efor
e,t
hesel
ler
sareina
posi
tiont
oexploi
tthebuyer
s.

-I
nt hehealthcar
emar ket
,theheal
thprovi
dershav
emoreinf
ormat
ionthanthepati
ent
s.
Therefor
e,theheal
thprovi
dersmayex pl
oitt
heconsumer
sbyprovi
dingunnecessar
ytr
eat
ment
s,
gi
vingextramedicalt
estsetc.

-Intheeducati
onsector,
theeducat i
onprovi
dershavemor einf
ormati
onthanthestudent
s
(consumersofeducati
on).Hence, t
heeducati
onpr ovi
dersmayexploi
tthest
udentsbyprovidi
ng
poorquali
tyeducat
ion,provi
dinginaccur
atemat er
ial
setc.So,t
hestudent
smaysuf fer
.This
l
eadt oami sal
l
ocati
onofr esourcesasthestudentsmayspendt i
meandmoneyi nthewr ong
place.

-I
nthepensionmarket,
themoneycont r
ibut
edbytheempl oy
eesmaybei nvest
edbythe
employ
ersinri
skyproj
ect.So,
thevar
iati
onsinpr
ofitwi
llhavetobeacceptedbytheempl
oyees.
Hence,t
heymaysufferduetothedecisi
onofemployer
s.

3.Exter
nalcost–Thesear
ecostsincur
redbyt
het
hir
dpar
ti
eswhoar
enei
thert
hepr
oducernor
consumersofaneconomicact
ivi
ty.

Duet
othefr
eemarketf
orces,
cer
tai
ngoodsareoverpr
ovi
dedcausi
ngsomeextracostt
obe
i
ncur
redbyt
het
hir
dparti
es.Ex–airpol
l
uti
ongiv
enoutbythecar
salsosoundpol
lut
ion.
 MSC=MPC+Ext
ernal

=MPB
(
Assumi
ng)

Fi
g:Ext
ernal
Cost

Q:
MPC=MPB

Q1:
MSC=MPC

ABCi
stheext
ernal
cost

4.Exter
nalbenef
it–Thesear
ebenefi
tsincur
redbythet
hir
dpar
ti
eswhoar
enei
thert
he
producernort
heconsumersofaneconomicacti
vi
ty.

Goodswithext
ernal
benef
it
sli
keheal
thcar
eandeducat
ionar
ebei
ngunderpr
ovi
dedbyt
hef
ree
marketf
orces.
 =MPC(
Assumi
ng)

MSB=MPB+Ext
ernal

Fi
g:Ext
ernal
Benef
it

Soci
alCost
/Benef
it=Pr
ivat
eCost
/Benef
it+Ext
ernal
Cost/Benef
it

5.MoralHazard–Iti
sasi
tuati
onwher
eindi
vi
dual
soranor
gani
zat
ioni
spr
otect
edf
rom t
hei
r
consequencesoft
hei
ract
ions.

Theyknowt
hatsomeoneel
sewi
l
lpayf
oranypr
obl
em t
hatoccur
s.Ther
efor
e,t
heymayt
akeun-
dueri
sk.

Forexampl
e;abankmayt akei
nsuranceagai
nstanyl
ossthatmayoccur.Theref
ore,thebank
managermayinvestt
hemoneyt hathasbeendeposi
tedbythedeposi
tor
si nveryri
skyproj
ects
,asthebankmanagerknowsthattheinsur
ancewil
lbecompensateforanylossthatmay
occur.

MoralHazar
doccur
sasther
eisasymmetr
icinf
ormat
ioni
nthemar
ket
.Thati
sthebuy
ershav
e
di
ff
erentamount
sofi
nfor
mati
onthatt
hesell
er.

I
mpactofmor
alhazar
dont
hei
nsur
ancemar
ket–

5.Consumer
s–I
nsur
edwi
l
lhav
etopaymor
epr
emi
um duet
othemor
alhazar
ds.

6.Pr
oducer
s–I nsur
ancecompani
eswi
l
lhav
emor
epr
ofi
tast
heycant
akeadv
ant
ageof
moral
hazar
ds.

7.Wor
ker
s–Thewor
ker
swi
l
lhav
egr
eat
erj
obsecur
it
iesandhi
ghersal
ari
es.
 8.Gover
nment–I
fthei
nsur
edsuf
fer
s,t
heymayber
eluct
antt
oinv
est
.Thus,
theeconomi
c
gr
owthmayfal
l
.

I
mpactofmor
alhazar
dont
hebanki
ngi
ndust
ry–

5.Consumers–Asthebanksstar
ttaki
ngi
nsuranceagai
nstt
heirloss,
thei
rcostof
pr
oducti
onwil
li
ncrease,
sotheymayrai
seinter
estr
atesonloans.

6.Pr
oducer
s–Banksmayseeaf
all
int
hei
rcl
i
ent
s.Thus,
thei
rpr
ofi
tmaydecr
ease
ov
ert
ime.

7.Wor
ker
s–Bankempl
oyeemayear
nhi
ghl
yinshor
trunbutmaybeaf
fect
edi
nthel
ong
r
un.

8.Gover
nment–Duetomoral
hazards,i
fthebanksult
imat
elyr
aiset
hei
rint
erestr
ate,
the
i
nvest
mentint
heeconomywil
lfal
l.Asaresul
t,aggr
egat
edemandintheeconomywi l
l
fal
l
.

6.Specul
ati
onandMar
ketBubbl
e–

Specul
ati
on–Itoccur
swhenaneconomi
cagentbuyorsel
lgoodswi
thexpect
ati
onoff
utur
e
pri
cechangesi
nordertomakepr
ofi
t.

Often,
duet
othespecul
ati
vemoti
veamarketbubblemaybecr eated.Itoccur
swhentherei
s
ri
seindemandcausi
ngthepr
icet
oincr
easebeyondcert
ainlevel
.Ther easonsfori
ncr
easei
n
demandmaybepeer-pr
essur
e,emoti
onsetc,
rathert
hatrat
ionaldecisionmaking.

Howev er,
thebubblemaycol lapse.Thismaybebecausesomeonemayf i
nall
yst
artt
oselland
maycr eat
eapani cinthemar ket.Asar esult,
thepri
cemaycol
lapse.Ther
efore,
peoplemay
havethebuyt hegoodatv eryhighpri
ceandnowwoul dhav
etosellatver
ylowpri
cemaking
si
gnif
icantlosses.Thus,peoplemayr eluctanttoi
nvest.

I
mpactofMar
ketBubbl
es–

5.Consumers-Duet
othemar
ketbubbl
es,
sharehol
dersmaysuff
er.Theshar
eholder
swill
buytheshar
eataver
yhi
ghpri
ceandwil
lsel
ltheshareatal
owpr i
ce,maki
nglosses.

I
fpeopl
ebuyhousesataver
yhighpr
iceandt
heymaysel
lthehouseatv
eryl
owpr
ice
duet
ocoll
apseofhousi
ngmarket
.

6.Fi
rms–Thepr oducersi
nthehousi
ngmar ketwi
llsuf
fer
,whenthehousepr i
cef
all
s.Thi
s
i
sbecausetheconstr
ucti
onmateri
alsandlabor
smaybecomev er
ycostlyt
henthe
housepr
iceri
ses.Hence,
busi
nesseswill
notbewi l
li
ngtoi
nvestinthehousi
ngmarket.
 Busi
nessesmaynotbeabl
etor
aisef
undbyi
ssui
ngshar
esaspeopl
emayber
eluct
ant
toi
nvest.

7.Wor
ker
s–Whent
heconst
ruct
ionf
ir
msmakel
ossest
heymayl
ayof
fsomel
abor
sorcut
t
hei
rwages.

Int
hesharemar
ket
,ast
hebusi
nessmaynotbeabl
etor
aisef
inance,
theymayl
ayof
f
somelabor
s.

8.Gov er
nment–Ifthesharemar ketorhousi
ngmarketcol
l
apses,peopl
ewi
ll
ber el
uct
ant
toinvest
.Asaresult
,aggregat
edemandi ntheeconomywil
lfal
lcausi
ngafal
li
n
economicgrowthinthecountr
y .

Thegov
ernmentwi
l
lhav
elesst
axr
evenueast
hebusi
nesswi
l
lbel
esspr
ofi
tabl
e.

Gov
ernmentFai
l
ure

-Whent
hei
nter
vent
ionoft
hegov
ernmentl
eadst
oanetwel
far
eloss.

Gov
ernmentFai
l
urei
nheal
thcar
e–

1.Mor
eadmi
nist
rat
orst
hanhospi
tal
beds.

2.Hi
ghwai
ti
ngl
i
nes.

3.Themachi
nesandequi
pmentar
eoutofor
der
.

Ev
aluat
ion–

1.Heal
thcar
ehasposi
ti
veext
ernal
i
ties,
soi
thav
etopr
ovi
dedbyt
hegov
ernment
.

2.Wai
ti
ngl
i
neshasdecr
eased,
butst
il
lmor
ethanopt
imal
.

3.Asthegovernmenthassi
gni
fi
cant
lyi
ncr
easest
hef
undi
ng,
mor
emanager
sar
erequi
redt
o
ensur
eeffi
cientuseoff
und.

Gov
ernmentFai
l
urei
nFi
shi
ng–

1.Fi
shesar
ethr
owbackt
hatcat
chesdeadi
ntot
hesea.

2.Fal
li
nfi
shi
ngst
ocks.

3.Empl
oyi
nspect
ors.

Ev
aluat
ion–
1.Woul
dthef
ishi
ngst
ocksi
mpr
ovedi
fthegov
ernmenthadnoti
nter
vened.

2.I
sitpossi
blet
ocount
sfi
shi
ngst
ocksaccur
atel
y.

ENDOFUNI
T1