Microeconomics Chapter 10 Externalities

Arises when a person engages in an activity that influences the well-being of a bystander but neither pays nor receives compensation for that effect. If the impact on the bystander is adverse it is called a negative externality and if it is beneficial then it is called a positive externality

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When it maximizes the sumo f producer and consumer surplus. Therefore, the market allocates resources in a way that maximizes the total value to the consumers who buy and use the good minus the total costs to the producers who make and sell the good

The willingness of the consumer to pay (their value of the good).

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When the pollution gets emitted, it is bad for society because people in society will breath in the air with pollution and that's bad for everyone.

It is basically the Supply (Private Cost) line + External Cost. With a negative externality, the social cost line will be a shift in supply curve essentially.

Includes the private costs of the aluminum producers plus the costs to those bystanders affected adversely by pollution

The benevolent social planner would choose a quantity of aluminum that maximizes producer surplus and consumer surplus, but also one that makes sense given the externality. The planner would choose the level of aluminum production at which the demand curve crosses the social cost curve

The equilibrium of Qmarket is larger than the socially optimal quantity Qoptimal. This is because the marginal consumer values aluminum at less than the social cost of producing it so the Q market demand curve lies below the social cost curve

Tax aluminum producers for each ton of aluminum sold so that there would be a shift in the supply curve of aluminum by the size of the tax. If the tax reflects the negative externality, then the shift in supply will make a new supply curve that coincides with the social cost curve.

Altering incentives so that people take account of the external effects of their actions (using a tax to shift supply so that it coincides with the social cost curve). Using a tax would make producers take into account the effects of the pollution because they don't want to spend a lot of money.

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Education is a positive externality. Higher levels of education usually leads to more educated voters and thus a better government. It also leads to lowered crime rates It may also lead to more technological advances which would lead to a higher productivity and wages for everyone

Because the social value is greater than the private value, the social value curve lies above the demand curve.

WHere the social value vurve and the supply curve intersect

By inducing market participants to internalize the externality. The response in the case of positive externality is the opposite of negative externality. Positive externalities like education are heavily subsidized through public schools and government scholarships

Negative externalities lead markets to produce a larger quantity than is socially desirable. Positive externalities lead markets to produce a smaller quantity than is socially desirable. To remedy the problem, the government can internalize the externality by taxing goods that have negative externalities and subsidizing goods that have positive externalities

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They can either require or forbid certain behaviors. For example, is it a crime to dump poisonous chemicals into the water supply. In this case, the external costs to society far outweigh the benefits of the polluter. The government therefore institutes a command and control policy that prohibits this act all together.

Many things emit pollution that cannot be banned. For example, virtually all forms of transportation emit some type of pollution, but it is unreasonable to outlaw transportation.

They weight the costs and benefits to decide the kinds and quantities of pollution it will allow

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Taxes enacted to deal with the effects of negative externalities

Would equal the external cost from an activity with negative externalities

Would equal the external benefit from an activity with positive externalities

A regulation will tell a company that they can only produce x units of their good (used to reduce the amount of the good they produce) while a corrective tax will tax the company per unit of good (and the tax sill have the same effect as the regulation since it will force companies to lower production by giving them incentive).

Once the company hits their max of 300 tons for that year in the regulation scheme, they have no incentive to keep producing. However, if they are taxed, they have incentive to keep producing the good and also have incentive to develop cleaner and more efficient ways of producing their good

When externalities are present, society also cares about the well being of the affected bystanders. Corrective taxes alter incentives that market participants face to account for the presence of externalities and thereby move the allocation of resources closer to the social optimum. They raise revenue for the government and also enhance economic efficiency.

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Since total amount of pollution in the river is not changing so it is socially efficient. The deal is also being made voluntarily from both sides so it must be economically efficient for both companies. The deal should be accepted

Basically the right to pollute. If the government accepts deals like the one above, it will create a market for pollution permits, and by willingness to pay, the permits will end up in the hands of the companies that value it most highly (economically efficient).

The more costly it is for a firm to cut back on pollution, the more it will be willing to pay for a permit. The firms that can reduce pollution at a low cost will sell whatever permits they get, and firms that can reduce pollution only at a high cost will buy whatever permits they need

A corrective tax (horizontal line on graph) sets the price of pollution which, together with the demand curve, determines the quantity of pollution. Pollution permits (vertical line on graph) set the quantity of pollution which, together with the demand curve, determines the price of pollution.

When the EPA wants no more than x amount of glop dumped into the river but doesn't know the demand curve for pollution so it doesn't know what size of a tax to levy in order to achieve the goal. They just auction off pollution permits and the auction price would yield the appropriate size of the corrective tax

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That we cannot allow people to pollute our air and water for a cost because clean air and water is a fundamental human right that everyone deserves and we should not put a price on a clean environment. We should do everything we can to keep a clean environment

A clean environment is good for sure, but when you compare it to the opportunity cost (cost to remove all pollution, monetarily and socially) it is not worth it to get rid of all pollution

We would digress and lose our technological advances that help us have such a high standard of living. Most people wouldn't want to accept poor nutrition, inadequate medical care or bad housing to make the environment as clean as possible.

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1. Moral codes and social sanctions
2. Charities
3. Relying on self interest of the relevant parties

People do not litter because of social codes. There are laws against littering but they are not enforced very strongly. However, people do not do it because it is "not the right thing to do".

People give donations to charities such as environmental nonprofits because they believe in the cause. People give donations to universities because education has positive externalities for society.

Consider an apple grower and a beekeeper who are located next to each other. The bees get nectar from the apple trees and the apple trees get pollinated by the bees. When both firms decide how many of each good to have, they have too few trees and too many bees. If the apple grower buys the bees or the beekeeper buys the trees, then they operate in the same firm and can function properly

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If private parties can bargain over the allocation of resources at no cost, then the private market will always solve the problem of externalities and allocate resources efficiently.

Socially Benevolent Planner: If Dick's benefits of having the dog outweigh Jane's costs of having the dog barking, then it is efficient to keep the dog. If the costs outweigh the beneifts, then it makes sense to get rid of the dog

Coase Theorem: If Jane is willing to spend $800 to get rid of the dog and Dick's dog benefits are $500, then Jane can offer Dick $600 to get rid of the dog and he will accept, leaving both parties better off. However, there is a possibility that Dick values his benefits from his dog at $1000 and Jane will only pay $800 so the dog will stay.

No, because the two parties can bargain with each other and solve the externality problem.

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Applies only when the interested parties have no trouble reaching and enforcing an agreement. In reality, though, bargaining does not always work even when a mutually beneficial agreement is possible.

1. When there are transaction costs
2. When bargaining simply breaks down
3. When the number of interested parties is large

Transaction costs are the costs that parties incur in the process of agreeing to and following through on a bargain. For example, imagine that Dick and Jane didn't speak the same language and needed to hire a translator. If the benefit of solving the barking problem is less than the cost of the translator, they may choose to leave the problem unsolved.

This usually happens when both sides hold out for a better deal. For example, if Dick values his dog at $500 and Jane will spend up to $800 to get rid of the dog and she offers $600, Dick might hold out to get more money from Jane and the bargaining can break down.

Coordinating a large number of parties is costly

Sometimes the government can play a role