Product or commodity is anything that is used to satisfy needs and wants of a society. Products are either Goods (tangible and visible) or Services (intangible and invisible). Goods and services can be classified into two basic categories, i.e., free goods and Economic goods.
Free Goods: They are unlimited in supply. These have zero opportunity cost since consumption is not limited by scarcity. They have no prices – as their name indicates – and in theory, no factors of production are required to produce them. The air we breathe could also be seen as a free good along with water in a local river.
Economic Goods: They are limited in supply. Virtually all goods we consume are economic goods including food, clothing, cars mobiles etc. except those few which fall under the category of free goods. Economic goods are either private goods or public goods.
Public goods: These are non-excludable and non-exhaustible (non-rivalry in consumption) and, most times, nonrejectable as well.
- Non-excludable means no one can be stopped from the consuming the good if they are available to anyone in the society.
- Non-exhaustible or non-rival means that they don’t exhaust when they are consumed.
- Non-rejectable means that the consumer does not have a choice of whether to consume the commodity or not. An availability of public goods to one person does not infringe upon the right of others to consume the same product.
Some goods are purely public (e.g. lighthouse or national defence) and others are to certain extent also known as quasi-public goods (e.g. public beach or public park). These are the goods that have some but not all of the characteristics of public goods.
Whether a good is purely public depends upon the extent to which it is non-excludable and nonexhaustible.
|PUBLIC GOODS||PRIVATE GOODS|
|Free rider problem||No free rider problem|
|Benefits of public goods can be extended to others at zero additional cost.||Benefits of private goods can’t be extended to others at zero additional cost.|
|Examples: National defence, light houses, national T.V., and radio broadcasts.||Examples: merit goods, demerit goods, and all other goods.|
Private goods are those bought and consumed by individual consumers or firms for their own benefit. Most of the goods we consume on a daily basis are private goods. Food, cars, TV, education, cigarettes etc all are examples of private goods regardless of whoever is producing i.e. private or public sector. They have two important characteristics:
- Excludability: It is possible to exclude some people from using a private good. This is normally done through charging a price. If the price is not acceptable, then that good will not be consumed. Once a private good has been purchased by one person it cannot be consumed by others.
- Rivalry: The consumption by one person reduces the availability for others, in some ways it seems obvious that when we purchase food, clothes or a textbook then this means that fewer of these goods are available for purchase by others.
The state is concerned to increase in consumption of certain goods which it considers to be highly desirable for the welfare of the citizens however consumers do not realize the true private benefit of them. Such goods are described as merit goods. They are special form of private goods. The best known examples are state health and education systems. Other examples include training, insurance, inoculation and seat belts.
In a pure market system, consumer spending on merit goods would be determined by the private benefits (benefit to consumers and producers) derived from them. Merit goods have positive externalities or external benefit (benefit to the third party who are not directly involved in production and consumption decision) so that the social benefits (Private benefit + external benefit) derived from their consumption exceed the private benefits.
To understand these types of good, it is necessary to appreciate that there is information failure to the consumer. This arises because consumers do not perceive quite how good or bad a particular product is for them; either they do not have the right information or they simply lack some relevant information. This is why merit goods are provided by the government for those who are deemed to need them. With this idea of a failure of information, a merit good is defined as a good that is better for a person than the person who may consume the good realizes.
It is interesting to note that the example of a merit good given here, namely education, is the same as the same as the example of the product that can be seen as having positive externalities associated with it. People undertaking education receives consumption and investment benefits. Most will enjoy the education and it may stimulate lifetime interests (consumption benefit) and will increase their future earning power (investment benefit). In addition to these private benefits, third parties will gain from having a more educated, inventive labour force and a more informed population (positive externalities). However, the reason for identifying the product is different here in case of merit goods. Here, it is not due to the external benefits that it creates, but rather due to the unperceived private benefits to the person through consuming the product.
Demerit goods, on the other hand, are those products that are worse for the individual consumer than the individual realizes. Cigarettes are taken to be a typical example here. It is suggested that when a person makes a decision to smoke a cigarette, he or she is not fully in possession of such information, then there would be a greater reluctance to smoke.
In a pure market system, consumer spending on demerit goods would be determined by the private costs (cost to consumers and producers) derived from them. Demerit goods have negative externalities or external cost (cost to the third party who are not directly involved in production and consumption decision) so that the social costs (Private cost + external cost) derived from their consumption exceed the private costs.
It is interesting to note that the example of a demerit good given here, namely smoking, is the same as the same as the example of the product that can be seen as having negative externalities associated with it. However, the reason for identifying the product is different. Here, it is not due to the damage done to others that the issue arises, but rather due to the unperceived damage done to the person through consuming the product. Like smoking, if its a demerit good as well as causes negative externality, there will be two causes of market failure associated with one product.