What Jolito Ortizo Padilla says about Merit and Demerit Goods

A merit good is one which is underprovided by the market mechanism, the one which some people think should be provided in greater quantities. One reason for underprovision is the individual  lack perfect information and find it difficult to make rational decisions when costs occur today, but the benefits received come in , say thirty years time. Another reason is because there are significant positive externalities present.

Health, education and insurance are the main merit goods provided today by the government. Health and insurance are two examples where consumers find it difficult to make rational choices because of time. If left totally to market forces, the evidence suggests that individual would not give themselves sufficient health cover or cover against sickness, unemployment and old age. Young people tend to be healthy and in work.Many find it difficult to appreciate that one day they will be ill and out of work. However, the cost of health care and pensions is so great that young people can only afford them if they save for the future.  If they don't, they find when they are older that they do not have sufficient resources needed to cover them against loss of earnings due to illness or retirement. Therefore it make sense for the state to intervene and to force young people in particular to make provision against sickness, unemployment and old age.

In the case of education, the main beneficiary (the child or student) is unlikely to be the person paying for education. Therefore there could be a conflict of interest. It could be in the interest of the parents to pay as little as possible for the child's education, Therefore there could be a conflict of interests. It could be in the interest of the parents to pay as little as possible for the child's education but in the interest of the child to recieve of the child to receive as high quality an education as possible. Others in society also  have an interest. Children who, for instance, cannot read or write are an economic liability today. They are more likely than not to receive support from others rather than contribute to the nation's welfare. This is an example of a principal agent problem, where those benefiting or losing from a decision are not the same as those making the decision and where the objectives, and outcomes for, the two groups are different.

There are many other examples of goods with a merit elements. Lack of industrial training, for instance, is seen as a major problem. Individual firms have an incentive not to train workers, not only because it is costly but also because their trained workers can be poached by companies. Rather, they go into the market place and recuit workers who have been trained at other firm's expense. It is an example of the free rider problem. It is partly countered by the government funding for the organizations which provide training in local areas.

A demerit good is one which is overprovided by the market mechanism. The clearest examples of demerit goods are drugs- everything from hard drugs such as heroin to alcohol to tobacco. Consumption of these goods produces large negative externalities Crime increases, health costs rise, valuable human resources are destroyed, and friends and relatives suffer distress. Moreover, individual themselves suffer and are unable to stop consuming because they are addictive. Therefore it can be argued that consumers of drugs are not the best judges of their own interests.

Government intervene to correct this market failure. They have three main weapons at their disposal: they can ban consumption as with hard drugs: they can use the price system to reduce demand by placing taxes: or they can try to persuade consumers to stop, for instance through advertising campaigns.

Merit goods are more controversial, partly because they contain a private good element. The main beneficiaries of health care and education, for instance, are patients and students. Government can attempt to increase the provision of merit goods in a variety of ways:

• Direct Provision- Government can supply public and merit goods directly to consumers free of charge. In Bahrain, primary and secondary  school education, visits to the doctor and roads are provided in this way. The government may choose to produce the good or service itself, as with the primary and secondary education, or it may buy in the services of firms in the private sector. General practitioners, for instance work for themselves and the government buys their services.
• Subsidies- the government may pay for part of good or service (a subsidy) but expect consumer to pay the rest. Agricultural and meat products are subsidised in this way in the Kingdom of Bahrain.
• Regulation- the government may leave provision to the private sector but force consumers to purchase a merit good or producers to provide a merit good. For example, motorists are forced to buy a car insurance by law. There is ongoing debate in industrialised countries about whether workers should be forced to pay into private pensions.