XAT 2015 Question 26


Analyse the following passage and provide appropriate answers for questions that follow.

For private goods, competitive markets ensure efficiency despite the decentralized nature of the information about individual’s tastes and firm technologies. Implicitly, market competition solved adverse selection problems and the fixed - price contracts associated with exogenous prices solve moral hazard problems. However, markets fail for pure public goods and public intervention is thus needed. In this case, the mechanisms used for those collective decisions must solve the incentive problem of acquiring the private information that agents have about their references for public goods. Voting mechanisms are particular incentive mechanisms without any monetary transfers for which the same question of strategic voting, i.e., not voting according to the true preferences, can be raised. For private goods, increasing returns to scale create a situation of natural monopoly far away from the world of competitive markets. When the monopoly has private information about its cost or demand, its regulation by a regulatory commission becomes a principal - agent problem.

(Note: Public goods are those in which individuals cannot be excluded from use and where use by one individual does not reduce availability to others, while an individual can be excluded in case of private goods.)

Question 26

For which of the following goods, can markets not be efficient?


According to the passage, competitive markets ensure efficiency for private goods, and private goods are those from which an individual can be excluded.

Among the options, only Air is an entity that is freely available and from which people cannot be excluded.

Thus, it is a public good. All other options are private goods for which markets can be efficient.

Hence, the answer is option C.

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