1.3.2 - Externalities Flashcards
What Happens At Free Market Equilibrium?
There is efficient allocation of scarce resources.
Describe Private Costs (PC)
(2 Points)
~ Costs of production for a producer.
~ MPC -> Marginal private cost, extra cost when producing one more unit.
Describe External Costs (EC)
Costs to 3rd parties, people who are not involved in the economic activity.
Describe Social Costs (SC)
(2 Points)
~ PC + EC = SC.
~ In a free market which is being AE, we assume that there are not EC, which is why S = MPC = MSC.
Describe Private Benefits (PB)
(2 Points)
~ Individual consumer benefits, when consumers are consuming something.
~ MPB -> Marginal private benefit, extra benefit consumers get when they consume one more unit.
Describe External Benefits (EB)
Any impact on 3rd parties as a result of consumption.
Describe Social Benefits (SB)
(2 Points)
~ PB + EB = SB.
~ In a free market which is being AE, we assume that there are no externalities in consumption, which is why D = MPB = MSB.
What Occurs When MSC = MSB?
Social optimum.
What Occurs When MPC = MPB?
Private optimum.
What Can We See If AE Is Occurring?
(3 Points)
~ Maximisation of society surplus, where CS + PS are the greatest they can be.
~ Maximisation of net social benefit, where MSB = MSC assuming there are no EB/C. Any point beyond Q* social costs will be higher than social benefit.
~ Where resources perfectly follow consumer demand, no surplus or shortages, no excess supply or demand.
What Are Assumptions We Make With AE?
(5 Points)
~ Many buyers and sellers.
~ Perfect information.
~ No barrier to entry.
~ Firms profit max.
~ Consumers utility max.
What Is Meant By MPB?
Satisfaction derived from the production and consumption of the next unit.
What Is Meant By MPC?
Cost of the next unit that is produced or consumed.
What Are Negative Externalities?
(3 Points)
~ Costs to 3rd parties, as a result of the actions of a separate agent.
~ Market is failing, due to producers only considering private costs and not external costs.
~ There are negative externalities in production and consumption.
What Are Negative Externalities In Production?
(4 Points)
~ Costs to 3rd parties, as a result of the actions of producers.
~ Production = Cost curve as has problem.
~ Where the MSC > MPC, as EC are +.
~ E.g. Air pollution, resource depletion and degradation.
What Does A Negative Externality Of Production Look Like & Explain It?
(4 Points)
~ Market allocates resources at the private optimum (MPC = MPB).
~ Social optimum of Q*, which is allocative efficiency and where society wants resources to be allocated (MSC = MSB).
~ Market is misallocating resources as there is difference between SC and PC.
~ Meaning there is a welfare loss, as the is an over production or consumption at Q1 due to allocative inefficiency.
How Can You Analyse Negative Externalities In Production?
(4 Points)
~ Firms are ignoring the full social cost, due to self interest.
~ This leads to an overproduction or overconsumption.
~ Price is too low, as it is only accounting for the PC this encourages more consumption.
~ Leading to a misallocation of resources.
What Are Negative Externalities In Consumption?
(4 Points)
~ Costs to 3rd parties as a result of the actions of consumers.
~ Consumption = Benefit curve as a problem.
~ Where MSB < MPB, as EC are negative.
~ E.g. Smoking, excessive alcohol and excessive sugary drinks and fast food.
What Does A Negative Externality Of Consumption Look Like & Explain It?
(5 Points)
~ Market allocates scarce resources at the private optimum (MPC = MBP).
~ Society would like resources to be allocated at the social optimum at Q* (MSB = MSC).
~ Market is misallocating resources as there is difference between PB and SB.
~ Meaning there is a welfare loss, as the is an over production or consumption at Q1 due to allocative inefficiency.
~ All units being produced beyond Q*, are being produced at a higher SC than SB.
How Can You Analyse Negative Externalities In Consumption?
(3 Points)
~ Consumers are ignoring the full SB of their actions, they are only considering their PB due to self interest.
~ Leading to an over consumption and production.
~ There is a misallocation of resources.
What Are Positive Externalities?
(3 Points)
~ Benefits to 3rd parties, as a result of the action of a separate agent.
~ Market is failing, due to the under consumption or production of these products, as the external benefits are only considered by consumers or producers.
~ There are positive externalities in production and consumption.
What Are Positive Externalities In Consumption?
(4 Points)
~ Benefits to 3rd parties, as a result of the actions of consumers.
~ Consumption = Benefit curve as a problem.
~ Where MSB > MPB, as EC are +.
~ E.g. Healthcare, education, exercise and healthy eating.
What Does A Positive Externality Of Consumption Look Like & Explain It?
(5 Points)
~ Resources are allocated at the private optimum (MPC = MPB).
~ Society would like resources to be allocated at the social optimum of Q* (MSC = MSB).
~ Market is misallocating resources as there is difference between SB and PB.
~ Meaning there is a welfare loss, as the is an under consumption and production at Q1, due to allocative inefficiency.
~ We are missing out on extra SB , if production was at Q* due to SB > SC at the welfare loss.
How Can You Analyse Positive Externalities In Consumption?
(3 Points)
~ Individual consumers are ignoring the full SB of their actions, they are only considering their PB due to self interest.
~ Under consumption and production at the private optimum.
~ Misallocation of resources.
What Are Positive Externalities In Production?
(4 Points)
~ Benefits to 3rd parties, as a result of the actions of producers.
~ Production = Cost curve as a problem.
~ Where MSC < MPC, as EC are negative.
~ E.g. In work training and R+D.
What Does A Positive Externality Of Production Look Like & Explain It?
(4 Points)
~ Resources are allocated at the private optimum (MPC = MPB).
~ Society would like resources to be allocated at the social optimum of Q* (MSC = MSB).
~ Market is misallocating resources, as there is difference between PC and SC.
~ Meaning there is a welfare loss, as the is an under consumption and production at Q1, due to allocative inefficiency.
How Can You Analyse Positive Externalities In Production?
(3 Points)
~ Firms only consider their PC, don’t consider the full SC as they ignore EB, due to self interest.
~ Under production and under consumption.
~ Misallocation of resources.
