Externality: the uncompensated impact of one person’s actions on the well-being of a
Equilibrium fails to maximize the total benefit to society as a whole.
Supply curve = private cost
Demand curve = private value
Cost to society of producing aluminum is larger than the cost to the aluminum
Social cost is the private cost and the external cost, so it is above the supply curve.
Where the demand curve and the social-cost curve intersect is where is socially
Do this through taxes which raise the price and sell at socially optimal
Internalizing the externality: altering incentives so that people take account
of the external effects of their actions.
• Produce larger quantity than socially desirable.
Same as before but the externality affects the demand curve.
Fix through subsidies (scholarships)
Lead markets to produce a smaller quantity than socially desirable.
Technology spillover- if one firm discovers something then this advance can be used
by other firms as well.
The government gives tax breaks to industries that create technology spillovers
Patents- they can use the money they make to make further advances.