ch 10 externalities and property rights

external cost

• a cost of an activity that falls on people other than those who pursue the activity (effect on third parties – not the buyers or sellers)

• aka negative externality

• smoking, pollution, infectious diseases

externality

name given to an external cost or external benefit of an activity

external benefit

• a benefit of an activity received by people other than those who pursue the activity (third parties – not the buyers or sellers)

• aka positive externality

• education, new knowledge

economic effciency

externalities reduce ______

less output

when external benefits exist, maximizing private profits produces ______ than the social optimum

more output

when external costs exist, maximizing private profits produces ______ than the social optimum

private market outcomes

with externalities, ______ do NOT achieve the largest possible economic surplus

coase theorem

if people can negotiate the right to perform activities that cause externalities, they can always arrive at efficient solutions to the problems caused by externalities

• negotiations must be costless

lowest cost

the adjustment to the externality is usually done by the party with the ______

laws

when negotiation is not costless, _____ may be used to correct for externalities

internalize the externality

make those who impose costs on others, to face them; make those who generate additional benefits to others, to value them

a per unit tax on output

_____ when there is a negative externality equal to the amount of externality

• add to the MC curve to the cost of externality

a per unit subsidy on output

______ when there is a positive externality equal to the amount of positive externality

• add to the demand curve the amount of the externality

tragedy of commons

when use of a communally owned resource has no price, the costs of using it are not considered

• use of the property will increase until MB = 0

• overgrazing, overharvesting timber in public lands, overfishing