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Economic efficiency

An economically efficient market is defined in this Sourcebook as a situation where the cost to society of producing the last unit of a good or service is fully reflected in the price charged for the good or service. In economics textbooks this would be referred to as a ‘Pareto efficient’ market where it is impossible to make one member of society better off without making someone else worse off.


Excludability refers to the ability to prevent persons who have not paid for a good or service from consuming it. This requires the property rights to a good or service are not clearly defined or enforceable in a relatively costless manner. Low excludability means that it may be difficult to exclude people from ‘free riding’ and enjoying the benefits of goods and services even if they have not paid towards their provision. Producers would find it difficult to recoup the full costs of their provision and, from a social efficiency viewpoint, would thus tend to under-produce such goods.

Externality or spillover

An externality or spillover exists whenever the production or consumption decisions of one individual unintentionally impact on the production or consumption decisions of others in some way other than through the market.


A person who enjoys the benefits of goods and services even if s/he has not paid for it.

Jurisdictional spillover

The principle whereby a service should be controlled and financed at the jurisdictional level where there are no spillovers or externalities on neighbouring jurisdictions.

Market failure

The term ‘market failure’ refers to situations where the unfettered use of the market system or the private sector to allocate goods or services would not lead to a socially efficient outcome where the price of the good adequately reflects the (opportunity) costs to society of producing it.

Merit goods

Merit goods or services are ones that governments mandate individuals to consume, either to protect themselves from others or themselves where it is judged that people, left to their own devices, may not act in their own best interests. This paternalistic reason for intervention, when a government intervenes because it claims to know what is in the best interest of individuals better than they themselves do, should not be confused with government intervention to correct externalities.

Natural monopoly

A natural monopoly results from situations where average costs of production continuously fall as output expands. This means that one organization can supply a service more cheaply than two or more organizations. It also means that the cost of extra production, which determines the socially efficient price, is below average cost.

Principal-agent problem

In the presence of asymmetric information the principal who employs an agent to perform a task is often less well informed than the agent. This allows the agent to behave opportunistically.

Private goods

Private goods have the characteristics of both high excludability and high rivalrousness. These goods can be effectively provided by the private sector through the market mechanism.

Public goods

Public goods have the characteristics of both low excludability and low rivalry. Typically, they are provided by the government and paid for out of taxation as they potentially benefit all members of the community and ‘free riding’ makes it difficult to charge users directly for these services.


Rent-seeking is the use of resources in an attempt to gain control over artificially created monopoly situations.

Rivalry or rivalrousness

Most goods are rivalrous in the sense that one person’s consumption of the good reduces the availability of that good for others. Some goods, however, have a characteristic of low rivalrousness, this means that one person’s consumption of the good does not reduces its availability to others. As the cost to society of additional consumers enjoying the benefits of such a goods is zero, social efficiency requires their price to be set at zero. As a result it would not be profitable for the private sector to attempt to sell these goods.


The principle whereby administrative responsibilities are assigned to the lowest level of governance capable of carrying out these responsibilities competently.

Toll goods

‘Toll’ or ‘club’ goods are non-rivalrous (at least up to the point where capacity constraints may influence the marginal cost of further provision) but they are excludable. The term ‘toll good’ is used because efficiency conditions can be established justifying charging a toll for such a good. The alternative term ‘club good’ is used because the nature of most clubs is that members can share the benefits, but non-members can be excluded.

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