Question

There has been much discussion in the news about the production and use of paper straws. Describe the market for plastic straws. Is there an externality associated with this market? If there is an externality, what type exists? What will this externality do to the market for plastic straws? Be sure to clearly describe the equilibrium price and quantity for the market in both cases (in presence and absence of the externality).

Answer 1

Plastic is not biodegradable. Therefore production of plastic straws imposes an environmental hazard which is a negative externality. If this externality is not internalized, private equilibrium occurs at intersection of Demand and Marginal private cost (MPC) curves. If the external cost of environmental hazard is included (internalized), MPC curve shifts left to Marginal social cost (MSC). Efficient outcome is at intersection of Demand and MSC curves, with higher price and lower output compared to private equilibrium. As private outcome results in overproduction of plastic straws at a less than efficient price, a deadweight loss is generated.

In following graph, private outcome is at point A where Demand (D) intersects MPC with price P0 and output Q0. Efficient outcome is at point B where Demand (D) intersects MSC with price P1 and output Q1, where P1 is higher than P0 and Q1 is lower than Q0. Deadweight loss equals area ABC.