James d. Gwartney

Mitigate Market Failures
As we have stressed, if markets are going to allocate resources efficiently, property rights must
be well established and producers must be able to capture the benefits of their productive
actions. But the nature of some goods makes this difficult. In this element, two categories of
economic activity that pose serious challenges to the efficient allocation of resources through
markets are considered. They are public goods and externalities.
Public Goods
The nature of some goods makes it difficult for producers to benefit from their
production. This is the case with a category of goods that economists call public goods. Public
goods
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have the following two characteristics: (1) jointness in consumption—provision of the
good to one party simultaneously makes it available to others; and (2) non-excludability—it is
difficult or virtually impossible to exclude nonpaying customers. For example, flood control
meets the first criterion because once it is provided everyone in the region benefits, and it
meets the second criterion because the supplier will have trouble charging people for the
service. Thus, because potential suppliers are unable to establish a one-to-one relationship
between payment for and receipt of the good, it will be difficult to provide public goods
through markets.
Consumers will have an incentive to become “free riders”—to consume the good even
though they do not help to pay for it. And when a large number of people become free riders,
the good may not be produced (or too little of it may be produced) even when the value
derived from its consumption exceeds the cost. In such cases, markets will often fail to
produce a quantity of public goods consistent with economic efficiency. In addition to flood
ELEMENT 3.3
Public goods and externalities result in incentives that may encourage self-interested