- Merit good
- A merit good is a good that a free market under-consumes, because buyers underestimate its benefit to themselves or ignore its benefit to others.
- Demerit good
- A demerit good is a good that a free market over-consumes, because buyers underestimate its harm to themselves or ignore its cost to others.
Why a market gets the quantity wrong
Can you name the three causes that make a market get the quantity of a good wrong?
Either cause, or both, can make a good a merit or demerit good.
Imperfect information is when buyers or sellers do not have all the information necessary to make an informed decision about a product's price or quality.
Can you think of an example?
Many smokers underestimate how likely cigarettes are to make them ill later in life, so they buy more than they would with the full facts.
A positive externality is a beneficial spillover to a third party who is outside the market exchange, neither the buyer nor the seller.
Can you think of an example?
A flu jab protects the person who has it, and makes the people around them less likely to catch flu.
A negative externality is a harmful effect of a market exchange on a third party who is outside the exchange, neither the buyer nor the seller.
Can you think of an example?
Cigarette smoke harms the people nearby who breathe it in, though they bought nothing and nobody pays them for the harm.