Question

Consider an aggregate supply curve described by MC =5 + Q and an aggregate demand curve described by MWTP = 20 –2 Q. In addition, there is a negative externality of E = 3 per unit of production.
4a. What is the unregulated market equilibrium quantity?
4b. What is the socially efficient quantity?
4c. What are the total social net benefits of producing the market quantity?
4d. What are the total social net benefits of producing the socially efficient quantity?

Answer 1

Answer :

4a. What is the unregulated market equilibrium quantity?

Aggregate supply curve : MC =5 + Q and an aggregate demand curve: MWTP = 20 –2 Q

At equilibrium point:

5 + Q = 20 –2 Q

3Q = 15

Q = 5

Market equilibrium quantity = 5

4b. What is the socially efficient quantity?

negative externality of E = 3 per unit of production.

Therefore, If the negative externality is taken into account, then the cost of the widget would be higher. This would result in decreased production and a more efficient equilibrium.

5 + Q + 3 = 20 –2 Q

3Q = 12

Q = 4

Socially efficient quantity = 4

4c. What are the total social net benefits of producing the market quantity?

Total social net benefits when market quantity is produced = Private beenfits = Consumer Surplus + Producer Surplus

= AP₀E₀ + CE₀P₀ = CAE0

4d. What are the total social net benefits of producing the socially efficient quantity?

Total social net benefits when market quantity is produced =Private benefits + External benefits

Private benefits =  CAE₀

External benefits = Cost of Negative Externality = - BE₁E₀C

Negative sign represents cost

Total social net benefits of producing the socially efficient quantity = Private benefits + External benefits

= CAE₀ + (- BE₁E₀C)

= AE₁B

Graph :