ECON 1B03 Lecture Notes - Lecture 4: Externality, Deadweight Loss, Marginal Cost
10 Jun 2018
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Externalities
- Externalities: Sometimes there are benefits and costs that rise in the market that go
uncompensated
Positive Externality: a benefit enjoyed by individuals even though they did not pay to receive it
- Example: your neighbor goes to a garden center, buys a big tree and you enjoy the shade the
tree casts in your yard every afternoon. This is a positive externality in consumption (benefit
from something that somebody else bought, you had nothing to do with the market transaction)
- Example: a beekeeper farms bees to produce honey, but the bees also pollinate the beautiful
flowers that you enjoy in the park next door. This is a positive externality in production
Negative Externality: a cost suffered by individuals who had nothing to do with the market
transaction for which they are not compensated
- Example: your neighbor buys a dog from a breeder and its barking keeps you awake all night.
This is a negative externality in consumption
- Example: a local factory emits nasty chemicals into a lake during the production of steel and
pollutes the water so ou a’t swi aore. This is a negative externality in production
Marginal Private Benefit, MPB: maximum price someone would pay to consume one more unit of the
good. Generally, MPB decreases as more of the good is consumed (hence the downward sloping
demand curve). So, the demand curve is also the marginal private benefit curve
Marginal Private Costs, MPC: to produce more costs producers more; the supply curve gives the added
cost to producers of producing an additional good. So, the supply curve is the marginal private cost
urve or argial ost, MC, for short. It’s the additio to total ost for a fir to produe oe ore of a
good.
- When there are no externalities in the competitive equilibrium MPB = MPC and the market
outcome is efficient (total welfare is maximized)
- When there are externalities that are unaccounted for, the market outcome is not efficient (not
accounting for the additional benefits that people receive or the costs that people incur and
are’t opesated for)
Negative Externalities
- The production of steel also leads to air and water pollution. The cost of steel to society,
marginal social cost, MSC, is greater than just the private cost borne by producers of steel
because we add in the cost of the accompanying pollution
- If the fatories do’t aout for the eteralit, there’ll e overprodution and a deadweight
loss in welfare because the real costs outweigh the value to society resulting in negative
surplus
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ECON 1B03 Full Course Notes
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Document Summary
Externalities: sometimes there are benefits and costs that rise in the market that go uncompensated. Positive externality: a benefit enjoyed by individuals even though they did not pay to receive it. Example: your neighbor goes to a garden center, buys a big tree and you enjoy the shade the tree casts in your yard every afternoon. This is a positive externality in consumption (benefit from something that somebody else bought, you had nothing to do with the market transaction) Example: a beekeeper farms bees to produce honey, but the bees also pollinate the beautiful flowers that you enjoy in the park next door. Negative externality: a cost suffered by individuals who had nothing to do with the market transaction for which they are not compensated. Example: your neighbor buys a dog from a breeder and its barking keeps you awake all night.
