ap economics mr. bernstein module 74: introduction to externalities january 9, 2015
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AP Economics
Mr. Bernstein
Module 74: Introduction to Externalities
January 9, 2015
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The Economics of Pollution• Environmentalists argue unregulated electricity
producers overpollute because they do not consider harmful effects
• Producers argue regulation interferes with ability to produce at lowest cost
• Economists view as topic for cost-benefit analysis where the socially optimal level is where Marginal Social Costs (MSC) intersect with Marginal Social Benefits (MSB)
AP EconomicsMr. Bernstein
3
AP EconomicsMr. Bernstein
The Economics of Pollution• MSC curve is
upward sloping• MSB curve is
downward sloping(~ cleanup cost savings?)
• Will society reach OOPT?
• NO!
(Note optimal pollution is not 0)
4
AP EconomicsMr. Bernstein
The External Costs of Pollution• Negative Externality is an uncompensated cost that
a firm or individual imposes on others• Pollution from an Ohio River electricity plant lands
on Jersey residents who do not benefit from the electricity
• The unregulated market does not care about the pollution costs and produces until MSB = 0
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AP EconomicsMr. Bernstein
The External Costs of Pollution• Society would gain the entireshaded triangle ifpollution is reducedfrom Qmkt (MSB=0) to
Qopt
Qopt
MSB
MSC
MSC=MSB
Qmkt
$1000
MSC and MSBof pollution
Qty of Pollution Emitted (tons)
6
AP EconomicsMr. Bernstein
Private Solutions to Externalities• Coase Theorem• Ronald Coase (1960)• Requires clearly defined property rights plus minimal
transactions costs • A private solution can be worked out (ie $$ settlement)• Hurdles include communication problems, high legal
costs, delaying tactics
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