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Shaun Bentum-Siripi

12P

30th November 2013

Externalities of Education
Background Information:
Education is the wealth of knowledge acquired by an individual after studying particular subject matters or experiencing life lessons that provide an understanding of something. Education requires instruction of some sort from an individual or composed literature. The most common forms of education result from years of schooling that incorporates studies of a variety of subjects. It is considered a merit good that is under produced and under consumed despite the fact consumption benefits the individual by making him/her more knowledgeable. It is compulsory in most countries up until a certain age under state provision in order to increase consumption, thereby increasing the external benefit of its use.

Private Costs Benefits


-Workers have to be paid more for doing more demanding jobs -Productivity of firm increases as they have a more skilled workforce -Firms can charge more when their goods and services become of higher quality

External Costs
-Carries an opportunity cost in that investment must be taken away from another sector in order for free provision of education -People may take advantage of education, using their knowledge to commit crimes e.g robbery and hacking

Benefits
-Lower crime rates -Less unemployment and homelessness -Higher GDP per capita as people become more wealthy as they get better paid jobs -People can pass on acquired knowledge to others -Taxes can be raised as the population is wealthier -People become better citizens when they are better educated - Increased quality of goods and services -General quality of life increases because the government receives more money from taxes so they can spend more on public goods e.g streetlights -Goods become cheaper as supply increases

Diagram and Explanation:


A market failure problem is likely to exist and persist because the benefit to society in terms of higher productivity and a higher GDP is un-priced by the market. This leads to the private optimum level of output being less than the social optimum level of production. The consumer does not take into account the external benefits of higher education (they may not be aware of the social benefits or may underestimate their own private benefits this is an example of information failure) The private optimum occurs where the private marginal benefit (the benefit to the individual of consuming the last unit) equals private marginal cost, giving an output of Qp. At this level of output, the distance ab represents the size of the external benefit. For society as a whole though the social optimum is where social marginal benefit (SMB) = social marginal cost at output Qs. In terms of social efficiency education is under-consumed. The socially optimal level of output is where SMB=SMC. If we sum up the excess of SMB over PMB between Qs and Qp we arrive at a figure that indicates the deadweight welfare loss to society. This is the triangle abc. Society as a whole could be made better off by increasing the current level of output from Qp to Qs.

Shaun Bentum-Siripi

12P

30th November 2013

Solutions to Market Failure


1. Free Compulsory Provision: Mandatory consumption of education prevents under consumption below socially efficient levels, allocating resources efficiently for education as a merit good.

2.

Regulation: Information must be made available through various pamphlets or brochures given out or advertisements. Citizens in the workforce will be will be more aware of the full social benefits of education to themselves as well as to society at large.

3.

Information Provision: Students and parents will be more aware of the full social benefits of education to themselves as well as to society at large. The awareness of factoring in external benefit in decision making also moves the equilibrium closer to that of the socially optimum level.

4.

Funding and subsidies: Subsidies help to lower the costs of the consumers. Therefore, the consumption of education would increase. A subsidy would encourage allocation of more resources to the provision of education that otherwise would not be taken into consideration by students due to ignorance. Hence, this will lower the unit cost of production and provide an incentive for schools to increase the education services provided. The government can increase the number of people having education with the provision of subsidies.

Evaluation of Solutions
1. This is very expensive and carries an opportunity cost meaning that investment in free provision would require funds to be taken out from a different sector. However it would be effective by allowing everyone to consume education free of charge thus increasing the external benefit and helping society move closer towards socially optimum output.

2.

The government would have to provide funding for a product such as this where firms are made to educate their workforce of the external benefits of education. This would carry an opportunity cost by taking funds from one sector to pay for another; however it is a long-term solution to market failure because people can pass on their knowledge of external benefits others and it would also be very effective by forcing people to become aware of the external benefits and consume more education.

3.

This is similar to a regulation policy, it informs people of the external benefits of education, however it is less effective because the provision of information is not made compulsory for firms. Firms are not made aware of the external benefits of education and neither are citizens therefore consumption of education would not increase by much as people have no incentive to consume education.

4.

Like all forms of subsidies, a fixed quantity subsidy will cause consumption of education to increase. All subsidies distort consumer preferences. Subsidies create a form of captive market for local universities. Amount of subsidies given are still limited. Hence, tertiary fees are still expensive, deterring students from continuing their studies.