Question

In: Economics

If a market is characterized by a positive externality that is not the result of a...

If a market is characterized by a positive externality that is not the result of a technology spillover,

a.

the socially optimal level of output is greater than the equilibrium level of output, and the socially optimal price is greater than the equilibrium price.

b.

the socially optimal level of output is greater than the equilibrium level of output, and the socially optimal price is less than the equilibrium price.

c.

the socially optimal level of output is less than the equilibrium level of output, and the socially optimal price is less than the equilibrium price.

d.

the socially optimal level of output is less than the equilibrium level of output, and the optimal price is greater than the equilibrium price.

Solutions

Expert Solution

Correct answer is (a)

A positive externality exists when an individual making a decision does not receive the full benefit of the decision. The benefit to the individual (also called marginal private benefit) is less than the benefit to society (also called marginal social benefit).

Thus when a positive externality exists in an unregulated market, the marginal private benefit (MPB) curve (the demand curve) of the individual making the decision is less than the marginal social benefit (MSB) curve . With positive externalities, less is produced and consumed than the socially optimal level.

In case of services like education , immunization , unregulated market would lead to an equilibrium price of and equilibrium output of . Equilibrium in unregulated market is at the point of intersection of Marginal private benefit curve and marginal cost curve.

If marginal external benefit of such services is taken into consideration that is benefit to people other than person paying for the services, equilibrium in a regulated market is at the point of intersection of marginal social benefit (MSB) and marginal cost (MC) curve.At this point, output (also called socially efficient output is greater than equilibrium output in unregulated market.Price of service at this point is greater than the price in unregulated market.

  


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