Free Rider Problem – Explanation, Solutions and Examples

What is the Free Rider Problem?

The free-rider problem refers to a situation where individuals who profit from shared resources, common pool resources, or public goods, either do not pay for them or pay less than their fair share, leading to market failure. The traditional free market system is considered to have failed when individuals engage in free riding. The term “Tragedy of the Commons” also describes a scenario in which commonly shared resources are excessively consumed, thereby creating a free-rider issue.

A free rider problem example can be found in public transportation systems. In some cities, many citizens refuse to buy tickets and ride buses and trains without paying, which can lead to overcrowding of the system. This can result in a lack of revenue for the company running the transportation system, leading to higher fares and poorer service quality.

Explanation of a Free Rider Problem

Free-rider problem refers to a situation where some individuals or groups enjoy the advantages of a public good, or a shared resource without paying their appropriate share or without making any payment at all. As a result, the common pool resource may suffer from overuse or degradation. Studies indicate that even though people are naturally inclined towards cooperative behavior, the existence of too many free riders can cause a decline in cooperation, perpetuating the issue of free riding.

In the case of a public good, such as national defense or clean air, free riders benefit from the services provided without paying for them. This can lead to market failure since the service provider does not receive adequate compensation for their efforts and resources. As a result, they may be forced to reduce the quality of services or stop providing them altogether.

Hence, the Free Rider Problem is an issue that affects many areas of the economy and can lead to market failure. This problem has a wide range of implications, from reducing public service quality to increased costs for those who do pay for them. By understanding the concept of free riding and its consequences, individuals can take steps toward preventing it from occurring in their communities or businesses.

The Free Rider Problem is an important issue that should be addressed by policymakers, businesses, and individuals alike. It is essential to ensure that the benefits associated with public goods are shared fairly amongst all stakeholders involved in the process. This can result in a better-functioning economy and increased prosperity for all.

When the Free Rider Problem Occurs

Free rider problems occur when the collective benefit of an organization, such as a company, does not match the individual costs associated with that benefit. The economics concept of the free rider problem arises in specific scenarios –

• When a resource can be consumed by anyone without restrictions.
• When no entity has the power to control or limit the usage of the resource.
• When there is an individual or group responsible for producing and managing the resource.

For example, if one person is paying for taxes while their colleagues are not contributing anything towards the collective action, then that person may be bearing more costs than others and is considered a free rider. This can lead to market failure as the costs associated with collective action are not equal among all stakeholders.

Private companies may also be affected by free riders, particularly if their competitors are not paying taxes or contributing to collective action in any way. As a result, these companies may be forced to pay higher taxes and face increased competition in order to stay competitive.

The impacts of free riding can be wide-ranging and may include a decrease in public service quality, increased costs for those who do contribute to collective action, and ultimately market failure if the problem is left unchecked.

Why Are People Free Riders?

In some cases, people may be free riders because they don’t have the resources or knowledge to contribute. They are relying on the collective action of others, which is not an ideal situation for anyone involved.

In other cases, people may deliberately try and take advantage of a system by avoiding contributing their fair share. With the help of the game prisoner’s dilemma theory, you can understand why some people may be tempted to free-ride.

The theory states that when there is a collective action, each individual has the choice of whether they want to cooperate or defect. If they cooperate and pay their fair share, then everyone will benefit. However, if they defect and free-ride, then it can be tempting to take advantage of the system as they will not have to contribute anything.

The scenario involves a thought experiment where two rational agents can either work together for mutual gain or betray each other for personal gain. In the 1993 book Prisoner’s Dilemma, William Poundstone explained the modern version of the game typically used today.

In this, two members of a criminal gang, both imprisoned and separated from each other, have to choose between confessing or staying silent or testifying against the other.

The idea behind it is that if both agents cooperate, then they will each benefit from not testifying against one another and receive a lesser punishment. However, if one of them defects and rats out the other, then he can gain a profit while the other suffers a greater loss.

The same idea can be translated to the free-rider problem, where people are tempted to defect from the collective action and free-ride on the system.

Solutions to the Free Riding Problem

• Privatize public goods: The first solution to the free-riding problem is to privatize public goods by assigning property rights. This would give incentives for people to invest in a project since they would benefit from it, either directly or indirectly. This is a viable solution when public goods are limited and can be assigned to individual private interests.
• Establish Penalties: Another solution is to impose penalties on those who choose to defect from the collective action. This would discourage people from taking advantage of the system as they would have to pay a price for their actions.
• Appeal to altruism:  The third solution is to appeal to people’s altruistic nature and encourage them to cooperate with one another. This could be done through campaigns and education that emphasize the importance of collective action for the good of everyone. Doing so would help to create a sense of unity and shared responsibility among people. This will compel all members to pay the cost equally.
• Incentivise contributions: Another solution is to incentivize contributions. This could be done through rewards, such as vouchers, for those who make significant contributions to the collective action. This would encourage people to cooperate with one another and offer their resources or time to help the collective action.
• Taxation: The last solution is taxation. This would provide the necessary funding to support collective action and help to reduce the burden on those who are already contributing. It would also encourage those who are not contributing to contribute and pay taxes, as their taxes would go toward the collective action that benefits them.

Examples of the Free Rider Problem

Some of the examples of the free rider problem that we can see in our everyday life are –

1) The use of public services like roads and highways without paying taxes

When some people use these public services without paying taxes, it becomes a free-rider problem as they are taking advantage of the system by not contributing.

2) Sailors using a lighthouse of a country

Sailors who take advantage of the lighthouses without contributing anything to its cost are said to be free-riding on the system.

3) Taking advantage of public goods like parks, libraries, and other recreational facilities

People who take advantage of these public goods without paying taxes or fees do not contribute anything to the maintenance and upkeep of these facilities, resulting in a free-rider problem.

4) Taking advantage of Group Discounts

When some people use the group discounts offered by stores without paying their fair share, it results in a free-rider problem.

5) Using water treatment plants without paying required fees

Those who use water treatment plants without paying the necessary fees or taxes are taking advantage of the system without contributing.

Conclusion!

The free rider problem is a key political and economic theory that highlights how the collective interest may become neglected when individuals act based on their own self-interest. It is important to recognize the free rider problem so that collective action can be taken to ensure that everyone contributes an equal amount and costs are distributed equally. It is also essential to ensure that a collective resource is managed responsibly and efficiently so that everyone benefits from them.

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