Chapter 5.4

Question 1

What happens when there is a negative consumption externality?

Answer 1

The free market overallocates resources to the production of the good and too much of it is produced relative to what is socially optimum

Question 2

In general, what do negative externalities lead to?

Answer 2

Allocative inefficiency arising from an overallocation of resources to the good and to its overprovision

Question 3

Demerit good

Answer 3

A good that is considered to be undesirable for consumers but which are overprovided by the market

Question 4

Market-based policy to correct negative consumption externalities

Answer 4

Imposition of indirect Pigovian taxes

Question 5

Advantages of Pigovian tax on negative consumption externalities

Answer 5

Internalizes the externality

Question 6

Disadvantages of using Pigovian taxes to reduce negative consumption externalities

Answer 6

Difficult to measure the value of the external cost
Some goods have inelastic demand

Question 7

Advantages of using government legislation and regulation for negative consumption externalities

Answer 7

Can be very effective in reducing the external costs

Question 8

Disadvantages of using government legislation and regulation for negative consumption externalities

Answer 8

Can’t be used to deal with some negative consumption externalities like petrol

Question 9

Advantages of using education and awareness-creation for negative consumption externalities

Answer 9

They are simpler than other methods

Question 10

Disadvantages of using education and awareness-creation for negative consumption externalities

Answer 10

Costs a lot to the government for their campaigns, reducing funds available for other parts of the economy
Might not be effective in reducing the negative externality

Question 11

Advantages or disadvantages of using nudges for negative consumption externalities

Answer 11

May be difficult to design effective nudges
Might not have the same effect across income groups or cultural groups

Question 12

What do correction of negative consumption externalities usually do?

Answer 12

Decrease supply and shift the MPC curve upward through tax or by decreasing demand and moving MPB closer to MSB through regulations, awareness or nudges. Both are done to make production and consumption closer to optimum quantity