ECON1101 Study Guide - Final Guide: Pigovian Tax, Pay Television, Mira-Bhayandar Municipal Corporation
Public Goods, Externalities and Government Behaviour
Externalities
• Externality – ipact of oe aget’s actios o the well-being of a bystander.
• Negative externality – an externality which has an adverse impact (costs spill over onto
someone who is not involved in producing or consuming the good).
• Eg: Upriver steel firm dumps waste in water causing harm to downriver fishery.
• Market outcome where MB = Private MC.
• Efficient outcome where MB = Private MC + MEC = Marginal Social Cost.
• At Qmarket: Social MC > MB → Qmarket is inefficiently high → should reduce amount being
produced and consumed.
• Problem: missing market for clean water.
• Positive externality – an externality which has a beneficial impact (benefits spill over onto
someone who is not involved in producing or consuming the good).
• Eg: Repairs I make to my house provide benefits to my neighbours.
• Choose level of repairs where MC = Private MB.
• Efficient outcome where MC = Private MB + Marginal External Benefit = Social MB.
• At Qactual: Social MB > MC → Qactual is inefficiently low → increase Q.
• Firms do not have the incentive to produce more because they do not gain directly from the
benefits that are spilling over onto others.
• Problem: missing market for home repairs by other homeowners.
• Remedy = internalise the externality by:
1. Mergers
2. Pigouvian tax or subsidy
Pigouvian emissions tax – levy unit tax on polluter equal to MEC at the efficient
output level.
• Issues with tax:
1. Informational tax
2. Ignores reciprocal nature of externalities
• Other remedies for externalities:
1. Command and control regulations - the restrictions that the government uses to
correct market imperfections.
2. Tradable permits - a government granted license to pollute that can be bought and
sold.
Rival Goods and Excludable Goods
• A good is rival if consumption of that good makes less of that good available for another
person.
• Nonrivalry - the situation in which increased consumption of a good by one person does not
decrease the amount available for consumption by others.
• A good is excludable if it is possible to prevent a person from using a good.
• Nonexcludability - the situation in which no one can be excluded from consuming a good.
Types of Goods
• Private goods – are both excludable and rival, eg: food and clothing.
• Public goods – are neither excludable nor rival, eg: lighthouses or national defence.
• Common resources – are rival but nonexcludable, eg: fishing in the ocean, air.
• Nonrival and excludable, eg: pay TV, fire protection.
Efficient Provision of Public Goods
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