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Lecture 5

# ECON 101 Lecture 5: ECON 101 - Chapter 5 Notes Premium

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School
University of British Columbia - Okanagan
Department
Economics
Course
ECON 101
Professor
Noriko Ozawa
Semester
Fall

Description
Saturday, October 15, 2016 ECON 101 Chapter 5: Externalities, Environmental Policy, and Public Goods 5.1 Externalities and Economic Efﬁciency • Externality: a beneﬁt or cost that effects someone who is not directly involved in the production or consumption of a good or service. • e.g. the exhaust from a car creates smog; getting a ﬂu shot; ask a question in class • Two Types of Externalities: 1. Negative Externality 2. Positive Externality • Negative Externalities in Production • e.g. The market for gasoline The Marginal Private Beneﬁt —> Demand Curve The Marginal Private Cost —> Supply Curve • Suppose that oil reﬁneries emit pollution. The estimated cost to society is \$1 per unit. • The smoke creates a health risk for those who break the air. • There is a negative externality in the production of gasoline. 1 Saturday, October 15, 2016 Marginal Social Cost: the total cost society pays for the production of another unit or for taking further action in the economy. MSC = MPC + External Cost External Cost: producing or consuming a good or service imposes a cost upon a third party. NOTE: Social Optimum = Efﬁcient Equilibrium Efﬁcient Equilibrium: CS = below demand, above price, up to quantity PS = above supply, below price, up to quantity 2 Saturday, October 15, 2016 • Positive Externalities in Consumption • e.g. The Market for Post- Secondary Education MSB > MPB MSB: Marginal Social Beneﬁt Curve representing the demand after an external beneﬁt is imposed. MPB: Marginal Private Beneﬁt Curve representing the demand before the external beneﬁt is imposed. 3 Saturday, October 15, 2016 Main Finding: An Externality Causes Market Failure • Example 1: Negative Externality in Production • Marginal Social Cost > Marginal Private Cost • The Private Cost is too low and too much output is produced at the market equilibrium. • Example 2: Positive Externality in Consumption • Marginal Social Beneﬁt < Marginal Private Beneﬁt • The Private Beneﬁt is too low and too little output is produced at the market equilibrium. 5.2 Private Solutions to Externalities: The Coase Theorem • The Coase Theorem: when the parties effected by externalities can negotiate costlessly with one another, an efﬁcient outcome results no matter how the law assigns responsibility for damage. • When parties can bargain without cost and to their mutual advantage, the resulting outcome will be efﬁcient regardless of
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