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ECO100 - JAN 16

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James Pesando

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3. Alcohol: Negative Consumption Externality ● Allocative efficiency if consumption externality - divergence of social benefit and private benefit (Demand curve) ○ MC = Social MB ○ Production: divergence of social marginal cost and private marginal cost (Supply curve) ● Negative consumption externality: ○ Social value = private value - value of externality ○ Social demand curve = private demand curve - value of externality ○ social demand curve will fall beneath the private demand curve by the amount of the negative value of externality Market: Alcohol ● Negative consumption externality: $5 per bottle (impaired driving or similar costs) ● Market “over produces” alcohol ○ At Qc, social value< private cost (allocative inefficiency) ○ At Qs, social value = private cost (allocative efficiency) ● Welfare analysis: Negative consumption externality ○ To right of Qs, social value < private cost ● Government Intervention: Impose tax of $5 per bottle, to be paid by buyer. ○ Remember: incidence of tax does not depend upon whether it is imposed on buyer or seller ○ No deadweight loss anymore ○ Note: buyer pays Ps + 5, not Ps. Seller receives Ps ○ 1. Qs (Allocatively efficient) Pc ■ P (Paid by seller) = Ps < Pc ■ (Burden of the tax is shared by sellers and buyers) Two Anti-Theft Devices 1.Theft Club (steering wheel of car) 2. Silent Auto-Tracking Theft Device ● Positive Externality? (Do total thefts fall?) ● 1. No - can just move to the next car ● 2. Fall - more risk ○ Falls sharply in cities in which many cars have silent theft device ● Must be adopted widely Coase Theorem ● If: 1) Property rights exist and 2) Transactions costs are low [cost of doing business, cost of negotiating] ○ What can increase the cost: geographical decrease, number of parties. ● Then: private markets, in the presence of externalities, can arrive at allocatively efficient outcomes. ○ Without government intervention ● Further: result does not depend on who owns the property rights Examples #1 Two Farms ● Farm A: Cattle ● Farm B: Crops ● Negative Externality: Cattle stray and damage crops ● Cost of fence: $2,000 ● Damage to crops: $3,000 ● Coase Theorem: Property Rights: exclusive right to use resource) Property Right Result Why Farm A (Cattle can stray, witFence will be built by Farm BCost of fence is less than no damages payable) MB is greater than MC crop damage Farm B (Owner of Farm B Fence will be built by Farm ACost of fence is less than must be compensated for crop damage crop damage) Example #2 Cost of fence is $5,000 Property Right
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