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Lecture 11

ECO105Y1 Lecture Notes - Lecture 11: Passive Smoking, Social Cost, Externality


Department
Economics
Course Code
ECO105Y1
Professor
Avi Cohen
Lecture
11

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ECON 105
2015/2016
Lecture 10
7 December 2015
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2MARKET FAILURE WITH EXTERNALITIES
When externalities exist, prices don’t reflect all social costs and
benefits; markets fail to coordinate private smart choices with soci
al smart choices.
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·Negative externalities (external costs)
costs to society from your private choice that
affect others, but that you do not pay
·Positive externalities (external benefits)
benefits to society from your private choice that affect others, bu
t that others do not pay you for
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·Externalities occur when clear property rights are missing
·Tragedy of the commons
the overuse and depletion of a resource that no one can be excluded
from because of missing property rights
·Free riders
those who consume products or services without paying
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·When externalities exist, prices don’t reflect
all social costs and benefits, and markets fail
to produce efficient outcomes.
·markets produce
·Too many products and services with
negative externalities
(second-hand smoke, pollution, traffic jams)
·Too few products and services with
positive externalities
(vaccinations, education)
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6NEGATIVE EXTERNALITIES
AND EFFICIENT POLLUTION
For an efficient market outcome when there are negative externalitie
s, choose the quantity of output where marginal social cost equals m
arginal social benefit.
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ECON 105
2015/2016
Lecture 10
7 December 2015
2
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·“Efficient pollution” balances the additional environmental benefit
s of lower pollution with additional opportunity costs of reduced li
ving standards
·Socially desirable amount of pollution
is not zero
·At some point, additional
opportunity costs of reducing
pollution are greater than
additional benefits of lower pollution
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·When there are externalities, smart choice rule is: Choose the quant
ity of output where
marginal social cost = marginal social benefit
·Marginal social cost (MSC) = marginal private cost (MC) plus margina
l external cost(on others)
·Marginal external cost = price of preventing or cleaning up damage t
o others external to the original activity
·Marginal social benefit (MSB) = marginal private benefit (MB) plus m
arginal external benefit
·Marginal external benefit = price of the value or savings to others
external to the original activity
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9Demand, Supply & Negative Externalities in the Pulp Market
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10 Demand, Supply & Negative Externalities in the Pulp Market
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·Markets overproduce products and services with negative externalitie
s
·Price is too low because it does not incorporate external costs
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12 POLICIES TO INTERNALIZE
NEGATIVE EXTERNALITIES
If polluters are forced by government to pay the marginal external c
osts of their pollution, this internalizes the externalities/costs i
nto private choices, creating smart social choices.
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·Without property rights to the environment, businesses have incentiv
es to save money and improve profits by ignoring external costs like
pollution and global warming
·Governments can remedy market failures from externalities by creatin
g social property rights to the environment, making polluting illega
l, and penalizing polluters
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