lec12slides - c MC(Prod) + t t Tax = MC(Poll) at socially...

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1 4 Externalities Externality: When PRIVATE costs or benefits are not the same as SOCIAL costs or benefits. Negative externality: Social costs exceed private costs. Positive externality: Social benefits exceed private benefits. 8 Example: Pollution from production of fertilizer. MC(Prod) = Marginal production costs, ignoring pollution. MC(Poll) = Marginal cost of dealing with pollution. = MINIMUM cost of dealing with the pollution from one extra unit of output. MSC = Marginal social cost. = MC(Prod) + MC(Poll).
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2 10 $ Q MC(Prod) MSC Optimal outcome: P = MSC D = MWTP Q* P* 12 $ Q MC(Prod) MSC Market outcome: P = MC(Prod) D = MWTP Q* Q c Problem #1: too much output.
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3 13 Problem #2: Cost of pollution is not MINIMUM cost of dealing with pollution. 14 Internalize Pollution Costs Firm will: Minimize costs of dealing with pollution. Set P = MSC. Socially optimal outcome is attained.
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4 15 $ Q MC(Prod) MSC Tax on Fertilizer D = MWTP Q* = Q
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Unformatted text preview: c MC(Prod) + t t Tax = MC(Poll) at socially optimal output. 16 $ Q MC(Prod) MSC D = MWTP Q* Q c MC(Prod) + t IMPORTANT: Tax does NOT equal MC(Poll) at original market output. 5 19 Restrict Pollution per Unit of Output Example: emission standards on cars. Advantages: Reduces pollution for any level of output. Reduces output. Problems: Need to know optimal pollution per unit of output. Cost of meeting standards is not necessarily minimum cost of pollution. 22 Trade-able Permits for Pollution Each firm is issued permits for an amount of pollution. Firms can buy and sell permits. In perfect market: price of permits = marginal cost of reducing pollution by one unit. 6 23 A Polluting Monopolist Firm may produce LESS output than optimal. Attempts to handle externality can WORSEN loss to society. MR D MC(Prod) MSC Q m Q *...
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lec12slides - c MC(Prod) + t t Tax = MC(Poll) at socially...

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