the free market solution to free riders

I wrote this years ago to explain to a professor that free riders (specifically those gaining benefits from the free actions of other people in a market economy) is not a market failure:

In a normal market economy both the seller and buyer receives some social surplus from the trade and thus wealth is created. The free rider problem is only looked down upon because the free rider is perceived as getting something for nothing, when in fact that is how wealth is created in the first place. Let us look at the example:

A, B, and C live in adjacent houses. B wants to build a lamppost in order to keep away burglars. A and C would both benefit being as their houses would also receive the light to keep away intruders. Naturally B would want this lamppost the most being as it would be on his land giving his house light. A wants it also being as he has a nice house, but not as much as B because the light only partially hits his house. C has a little value for it, although getting the same amount of light he has less he wishes to protect, he lives in a trailer house.

The lamppost costs 300 dollars.
B is willing to pay up to 200 dollars.
A is willing to pay 100 dollars.
C is willing to pay 50 dollars.

C bluffs and says he won’t contribute, although he does value the light. A and B are forced to pay their max prices if they don’t call his bluff. 50 dollars of social surplus is created. If the prices were changed, B is only willing to pay 150 dollars, then after seeing his bluff will not work and no lamppost will go up, C decided to pitch in his 50. The lamp is created.

When buying a car, I did want the car, but always kept my bluff of walking away as to make the seller drop his price as low as he would. A fake problem is created when good bluffers get what they want for nothing, but this is not at all a problem. Every party still benefits even with external benefits. If every party paying didn’t benefit then the action wouldn’t be done. There is no need for government involvement in this case.

If B only values the lamppost at 150, and C didn’t value it at all, then the post shouldn’t be built, no mater what benefits A says C gets. It is immoral to take by force from C to make him participate in a trade. Not only that, but the social value is less than the costs. Governments can’t gauge social value; they should have no part in the lamppost making process.

About christopher fisher

The blog is meant for educational/entertainment purposes. All material can be used and reproduced in any length for any purpose as long as I am cited as the source.
This entry was posted in Econ 101, Economics, Trade. Bookmark the permalink.

1 Response to the free market solution to free riders

  1. The dollar’s value is usually in sync with demand for U.S. Treasury notes. The Treasury Department sells notes for a fixed interest rate and face value. Investors bid at a Treasury auction for more or less than the face value, and can resell them on a secondary market. High demand means investors pay more than face value, and accept a lower yield . Low demand means investors pay less than face value and receive a higher yield. That’s why a high yield means low dollar demand — until the yield goes high enough to trigger renewed dollar demand.

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