lec12 - Example Externalities Pollution from production of...

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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). 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. 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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This note was uploaded on 07/25/2011 for the course ECON 1 taught by Professor Martholney during the Fall '08 term at Berkeley.

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lec12 - Example Externalities Pollution from production of...

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