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outline_ch10 - Chapter 10: Externalities and Property...

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Chapter 10: Externalities and Property Rights
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I. External Costs and Benefits
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Externalities External Cost A cost that is borne by people other than those who pursue the activity Also called a External Benefit A benefit received by people other than those who pursue the activity Also called a
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Externalities and the Invisible Hand The implications for resource allocation of the invisible hand applies under conditions of perfect competition – i.e. conditions where externalities In the presence of externalities the socially efficient allocation of resources may not follow from
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FIGURE 10.1 How External Costs and Benefits Affect Resource Allocation Social MC = Private MC + XC S D Private MC Q soc XC XB MC Q soc Q pvt Q pvt Social demand = Private demand + XB Private demand
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Externalities and Resource Allocation Individuals considering only their own costs and benefits will tend to engage: Too much in activities that generate Market Price overestimates the benefits of the activity! Too little in activities that generate Market Price underestimates the benefits of the activity!
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Externalities and Resource Allocation Phoebe is a bee keeper. Example 10.1 Phoebe keeps her bees next to an apple orchard. Phoebe and the orchard owner both confer externalities on each other. If each only takes into account his/her benefits and costs then, compared to what socially optimal, the orchard owner will plant too apple trees and Phoebe will keep too bees
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Externalities and Resource Allocation Example 10.2 Phoebe keeps her bees next to a school and the students get stung by her bees. To protect themselves the students try to kill as many of the bees as they can. Phoebe and the students confer externalities on each other. If the all only take into account their own direct benefits and costs then, compared to what socially optimal, Phoebe will keep too bees and the students will kill too bees.
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Coase Theorem The Coase Theorem If there is no negotiation cost, then people can negotiate purchase and sale of the right to perform activities that cause externalities and, without eliminating the externalities, the parties can achieve final outcomes that are economically efficient
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outline_ch10 - Chapter 10: Externalities and Property...

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