Classification of Goods and Services (AS Level 1.6)
Welcome to one of the foundational chapters in Economics! You’ve already learned about scarcity and choice. But why do some goods need to be provided by the government, while others are handled perfectly well by the market?
The answer lies in how we classify them. This chapter helps us understand the characteristics of different goods, which explains why markets sometimes work perfectly, sometimes fail entirely, and sometimes just need a little nudge from the government.
The Two Fundamental Characteristics of Goods
Before classifying goods, we need to define two crucial economic concepts: Rivalry and Excludability.
1. Rivalry (in consumption)
Definition: A good is rival if its consumption by one person prevents or reduces the amount available for consumption by another person.
Example: If you eat a sandwich, I cannot eat that same sandwich. It is rival. If I listen to a public radio broadcast, you can also listen to it without reducing my ability to hear it. It is non-rival.
2. Excludability
Definition: A good is excludable if it is possible to prevent someone from enjoying the benefits of the good if they have not paid for it.
Example: A ticket collector can stop you from entering a cinema if you haven't paid. The cinema is excludable. It is very difficult (or impossible) to stop someone living in a country from benefiting from national defense, even if they haven't paid tax. National defense is non-excludable.
Section 1: Free Goods vs. Private (Economic) Goods (1.6.1)
The concepts of rivalry and excludability help us distinguish between the basic types of goods.
1. Private Goods (Economic Goods)
Most things you buy are private goods.
Definition: A private good (or economic good) is a good that is both rival and excludable.
Key Points:
• Rival: Yes. If I consume it, you can’t.
• Excludable: Yes. If you don't pay, you don't get it.
• Opportunity Cost: They require resources (Land, Labour, Capital, Enterprise) to produce, meaning they have a positive opportunity cost.
• Examples: Cars, clothing, food, private tutoring sessions.
2. Free Goods
Definition: A free good is a good whose consumption by society results in zero opportunity cost.
Key Points:
• Free goods are available in such abundance that they are not scarce.
• They require no resources to produce.
• Example: Naturally available air (unpolluted), sunshine, gravity.
Quick Note: Be careful! Just because something is cheap (like a matchstick) or provided without charge (like free entry to a park) doesn't make it a free good in the economic sense. If it took resources to produce, it’s an economic good, even if the price is zero.
Quick Takeaway 1: The market system is built around Private Goods because R&E allows firms to charge prices and earn profit. Free Goods are not part of the scarcity problem.
Section 2: Public Goods (1.6.2)
Public goods exist because the characteristics that make private goods successful (Rivalry and Excludability) are absent.
Nature and Definition of Public Goods
Definition: A public good is a good that is non-rival and non-excludable.
Key Characteristics:
• Non-Rivalry: The benefit derived by one person does not reduce the benefit available to others.
• Non-Excludability: Once the good is provided, it is impossible to prevent anyone from consuming it, whether they paid or not.
Examples: National defence, street lighting, flood control systems.
The Market Failure: The Free Rider Problem
Because public goods are non-excludable, individuals have an incentive to be a free rider—someone who benefits from a good without paying for it.
Step-by-step breakdown of the problem:
1. If a private firm provided street lighting, they couldn't stop people who didn't pay from walking down the illuminated street.
2. Rational consumers know they can benefit without paying.
3. They refuse to pay, hoping others will bear the cost.
4. Since everyone acts this way, the private firm collects insufficient revenue.
5. Result: The good is not provided at all, or it is severely under-provided, leading to market failure.
This is why public goods must typically be provided and funded by the government (usually through taxation).
Quick Takeaway 2: Public Goods = Non-Rival + Non-Excludable. If you see R&E, think Private. If you see Non-R&E, think Public.
Section 3: Merit Goods and Demerit Goods (1.6.3 & 1.6.4)
Merit and Demerit goods are specific types of economic goods (they are usually rival and excludable), but the market allocates them inefficiently due to issues with consumer knowledge—a form of market failure known as Imperfect Information.
1. Merit Goods (1.6.3)
Definition: A merit good is a good that the government believes consumers under-consume because they underestimate the benefits (or future benefits) of consumption.
The Core Problem: Under-Consumption
• Consumers suffer from imperfect information. They don't realise the true, long-term benefits to themselves (private benefits).
• They often ignore positive secondary effects (though we focus on the information failure for AS classification).
Example: Education. A student may not realise how much higher their lifetime income will be, or how much their general well-being will improve, if they stay in school. If left entirely to the free market, many would under-consume education.
Government Response: To encourage consumption, governments usually provide merit goods directly (state schools/hospitals) or offer subsidies.
2. Demerit Goods (1.6.4)
Definition: A demerit good is a good that the government believes consumers over-consume because they underestimate the true personal costs of consumption.
The Core Problem: Over-Consumption
• Consumers suffer from imperfect information. They often ignore or underestimate the long-term, negative consequences to themselves (private costs), especially relating to addiction or health.
• They may also ignore negative secondary effects on society.
Example: Cigarettes and excessive alcohol. A smoker may ignore or fail to fully grasp the future health costs and addiction risks associated with smoking, leading to over-consumption.
Government Response: To discourage consumption, governments usually impose indirect taxes, implement minimum age restrictions, or run public information campaigns.
Quick Review Box: The Classification Checklist
This is how you classify any good in the exam. Don't worry if this seems tricky at first; memorise the definitions and the key reason for the market inefficiency!
Goods Defined by R&E (Rivalry & Excludability)
1. Private Good: Rival & Excludable (e.g., a phone)
2. Public Good: Non-Rival & Non-Excludable (e.g., national defense)
Goods Defined by Information Failure
3. Merit Good: Private benefit is underestimated → Under-consumption (e.g., education)
4. Demerit Good: Private cost is underestimated → Over-consumption (e.g., cigarettes)
Did You Know? A Quasi-Public Good is a good that is technically non-rival but is excludable (or vice versa). Example: A toll road. While it may be non-rival when empty, the government can easily exclude you from using it if you don't pay the toll.