chapter03.ppt - Chapter 3 Externalities and Public Policy Externalities Externalities are costs or benefits of market transactions not reflected in

chapter03.ppt - Chapter 3 Externalities and Public Policy...

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Chapter 3 Externalities and Public Policy
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Externalities Externalities are costs or benefits of market transactions not reflected in prices. Negative externalities are costs to third parties. Positive externalities are benefits to third parties .
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Externalities and Efficiency The marginal external cost is the dollar value of the cost to third parties from the production or consumption of an additional unit of a good. This occurs when there is a negative externality .
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Social Costs MSC = MPC + MEC
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Figure 3.1 Market Equilibrium, A Negative Externality and Efficiency D = MSB S = MPC MPC + MEC = MSC 10 Price, Benefit, and Cost (Dollars) Tons of Paper Per Year (Millions) 110 105 100 4.5 5 A B G 10
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Implications of Figure 3.1 Market equilibrium occurs where MSC = MSB Efficiency Requires that MSC = MPC + MEC = MSB
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Positive externalities The marginal external benefit is the dollar value of the benefit to third parties from an additional unit of production of consumption of a good. This occurs when there is a positive externality .
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Social Benefit MSB = MPB + MEB
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Figure 3.2 Market Equilibrium, A Positive Externality and Efficiency S = MSC MPB + MEB = MSB H Z U V Price, Benefit, and Cost (Dollars) Inoculations Per Year (Millions) 10 25 30 45 10 12 0
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Figure 3.3 A Positive Externality for Which MEB Declines With Annual Output S' = MSC' C B F A S = MSC MPB i MPB i + MEB = MSB Price, Benefit, and Cost (Dollars) Inoculations per Year (Millions) 0 30 25 20 10 12 16 20
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