Economics A hypothetical question on market failure

[Ika Lob]

Let's say professor Snape is about to cast a terrible spell on all students of Hogwarts. Let's say that Harry know that professor Snape wants to cast this terrible spell on many students at Hogwarts. This spell will make them sick. Very sick.

Now, Harry wants to have as many pots of magic liquid as possible, in order to be ready for this spell, so that he can then cure all the infected students with this magic liquid. When Snape casts the spell, he wants to be ready to cure everyone.

However! There is not enough pots of magic liquid being made, therefore there must be a market failure because the society (Hogwarts students) will need a lot more magic pots than is being produced.

Is this a case of positive externalities of production or a case of positive externalities of consumption? Or can it be both?

[Daedalus]

Let's say professor Snape is about to cast a terrible spell on all students of Hogwarts. Let's say that Harry know that professor Snape wants to cast this terrible spell on many students at Hogwarts. This spell will make them sick. Very sick.

Now, Harry wants to have as many pots of magic liquid as possible, in order to be ready for this spell, so that he can then cure all the infected students with this magic liquid. When Snape casts the spell, he wants to be ready to cure everyone.

However! There is not enough pots of magic liquid being made, therefore there must be a market failure because the society (Hogwarts students) will need a lot more magic pots than is being produced.

Is this a case of positive externalities of production or a case of positive externalities of consumption? Or can it be both?

Neither.

Externalities don't work backwards; you can't say underprovision of a good is caused by an externality of x. In this situation you have completely inelastic demand - a set number, regardless of anything - and supply which simply can't meet it. That's bad business, not bad economics.

[Ika Lob]

Ok...

Let's say its the middle of the 14th century and the black death is about to break out. The kingdom of Arthur XI knows this, and wants to be prepared. King Arthur oversees a kingdom in which a free market operates. The producers in this kingdom do not produce enough medical leaves which can cure the black death. How should the king "intervene" in this market to make sure that all people infected with the black death will get a medical leaf? (Or at least there will be enough production of such medical leaves)

Use market failure please. I would say at least one graph of it.

[lighthuntz0r]

Just look at a vaccination example from a book / the internetz. It's basically the same thing.

[Keel]

Let's say professor Snape is about to cast a terrible spell on all students of Hogwarts. Let's say that Harry know that professor Snape wants to cast this terrible spell on many students at Hogwarts. This spell will make them sick. Very sick.

Now, Harry wants to have as many pots of magic liquid as possible, in order to be ready for this spell, so that he can then cure all the infected students with this magic liquid. When Snape casts the spell, he wants to be ready to cure everyone.

However! There is not enough pots of magic liquid being made, therefore there must be a market failure because the society (Hogwarts students) will need a lot more magic pots than is being produced.

Is this a case of positive externalities of production or a case of positive externalities of consumption? Or can it be both?

Let us assume that the good 'magic liquid' is a merit good. Under these circumstances it would be the creation of positive externalities due to consumption not production. The reasoning being that the production of 'magic liquid' creates no positive externalities in the process. Imagine an increase in the production of 'magic liquid'. Society would still not gain if these goods were not consumed. It is only when these goods are consumed that the 'terrible spell' can be avoided. Thus the diagram below would be appropriate showing two possible courses of action.

Option 1: Harry can go to Gringotts to empty his vault of Galleons and pay the producers of 'magic liquid' to lower their costs (i.e. subsidies them). This would shift the marginal cost from MC to MC₁ moving the equilibrium from P₁Q₁ to P₂Q₂. Q₂ is in fact the quantity of 'magic liquid' enough to save the whole of Hogwarts as that is where marginal social benefit (MSB) and marginal cost (MC) meet at P₃Q₂.

Option 2: Harry can tell the whole of Hogwarts that Snape is trying to poison them with his spell. Assuming Snape cannot be stopped as 'He-Who-Must-Not-Be-Named' is supporting him, the only option to survive the spell would be to consume 'magic liquid'. Making Snape's intentions public will shift marginal private benefit from MPB to MPB₁ as the consumption of 'magic liquid' has become 'more beneficial' to the individual. Thus the equilibrium will shift from P₁Q₁ to P₃Q₂. Here again, the quantity consumed, Q₂, is sufficient to save the whole of Hogwarts as it is at Q₂ that MPB₁ = MSB.

***Sorry for combining the two solutions into one diagram.

However, there are certain things that must be noted. The first is the assumption that 'magic liquid' is indeed a merit good. We only think of it as a merit good because: (a) the consumption of 'magic liquid' will save lives, (b) saving lives is a good thing, (c.) goods that do good things are merit goods, (d) therefore 'magic liquid' is a merit good. This could be considered flawed reasoning and it all boils down to what the individual considers to be a merit good (some people consider medicine a merit good, some do not, some consider deodorant a merit good, others do not). The consumption of 'magic liquid' does not really benefit society, or rather, not consuming it would create a loss in social welfare; so the good does not increase the welfare of society, it merely maintains the welfare at the level prior to the 'evil spell'. However, the most obvious issue here is 'information failure'. In your scenario, only Harry and Snape knew of the spell. As shown above a simple exposure of Snapes intentions would likely increase the demand for 'magic liquid' (unlike the need for expensive advertising 'real' merit goods need to increase demand). Thus the issue could be as simple as a distorted market. Fixing that distortion through the encouragement of 'perfect information' would create a diagram as simple as the one below.

***The same would apply to your King Arthur scenario.