AP Microeconomics — Unit 6: Market Failure and the Role of Government

What AP Microeconomics Unit 6 covers

The College Board Course and Exam Description breaks Unit 6 into 5 topics:

1. 6.1 Socially Efficient and Inefficient Market Outcomes
2. 6.2 Externalities
3. 6.3 Public and Private Goods
4. 6.4 The Effects of Government Intervention in Different Market Structures
5. 6.5 Income and Wealth Inequality

AP Microeconomics Unit 6 practice questions

• A factory dumps waste in the river because that's cheaper than disposing of it properly. It's behaving perfectly rationally — maximizing profit. So why is economists' verdict that the MARKET has failed here?

  It sees only its private cost, not the harm to others. The price ignores pollution damage, so it overproduces — that's market failure.

• Why do rational agents sometimes create socially undesirable outcomes?

  They respond to private costs/benefits, not social ones. A polluting factory ignores the health costs on neighbors; privately rational ≠ socially optimal.

• A factory produces 1,000 widgets. Consumers value the 1,000th widget at $12, but producing it cost society $8 — including pollution damage. An economist says the factory should keep going. At what point should it stop?

  Where marginal social benefit = marginal social cost. MSB = MSC maximizes total surplus, counting all external costs and benefits.

• You get a flu shot. You're protected — but so are the people around you who won't catch it from you. Meanwhile, a factory's smoke gives your neighbor asthma. What do these spillovers onto third parties have in common?

  A cost or benefit affecting someone outside the transaction. Negative = harm to third parties (pollution); positive = benefit (vaccines, education).

• A steel plant's smoke costs nearby residents $4 per ton in health damage, but that $4 never shows up in the plant's costs. On the graph, where does the marginal social cost curve sit relative to the supply curve — and which way is it shifted?

  MSC sits above the supply curve, by the $4 pollution damage. Supply shows only private cost; MSC adds the external damage on top.

• Your college degree raises YOUR income — but it also gives society lower crime and more innovation that you never get paid for. On the graph, where does the marginal social benefit curve land relative to the demand curve?

  MSB sits above the demand curve, by the spillover benefit to others. Demand shows only your private benefit; society values education more — positive externality.

• A factory's pollution costs society exactly $5 per unit, damage the firm never pays for. You want to size a per-unit tax that makes it produce the right amount. What's the magic number — and why that one?

  Tax it $5 per unit — a Pigouvian tax equal to the external cost. It shifts the firm's supply curve up by exactly the damage, so private cost finally equals social cost (MSC). The firm now feels the full $5 it was dumping on others and cuts output to the socially optimal level.

• Your flu shot protects you AND everyone you don't infect, so the market leaves too few people vaccinated. The government wants to nudge the quantity UP toward the social optimum. What tool fits — and which way does it move the curve?

  A per-unit subsidy equal to the external benefit, shifting demand right. It lowers the price of vaccinating, pushing quantity up to the social optimum.

+ 14 more AP Microeconomics cards in the app.

Key terms in Unit 6

These 9 terms show up in the Unit 6 cards. Each one links to its definition in the AP Microeconomics key-term reference.

• deadweight loss
• equilibrium
• externality
• free rider problem
• monopoly
• negative externality
• positive externality
• public good
• surplus