Question

Suppose a new recreational neighborhood park would cost $20,000, including opportunity costs, to construct and maintain. If built, the park would be a public good. For simplicity, assume the neighborhood park would be used by three families, each of whom would derive a marginal benefit equivalent to $8,000 from the park.

a. Describe a Coasian bargaining solution that could lead to the park’s construction.

b. Describe two potential issues that could lead to a failure to reach a bargaining solution.

c. Describe a government intervention that could lead to the park’s construction.

Answer 1

A) Total cost = $20,000

Total benefit = 3 x 8000 = $24000

Since benefits > costs, the park should be built.

Coase theorem states that bargaining between players can help in reaching efficient outcome.

Thus, the Coasian bargaining solution is for firms to divide the cost of park among themselves equally.

That is, each family pays : 20000/3 = $6,666.67

Since each family's benefit will still exceed the cost, it would be an efficient outcome.

B) Two potential issues can be:

(a) Families try to free ride and not reveal their true preferences

(b) Cost of bargaining is high among families

C) The government can help facilitate agreement between players and agree to provide subsidies to them for construction of the park.