Suppose that demand is given by P = 20 - Qd and supply is given by...

Suppose that demand is given by P = 20 - Qd and supply is given by P = 4 + Qs. Which of the following could represent the Social Marginal Benefit and Social Marginal Cost curves if there is a negative production externality?

		P = 16 - Qd and P = 2 + Qs
		P = 24 - Qd and P = 4 + Qs
		P = 20 - Qd and P = 2 + Qs
		P = 20 - Qd and P = 8 + Qs

Solutions

Expert Solution

The normal demand and supply curves capture price paid and received by individuals. The costs or benefits to society (externality) are not considered in a routine demand and supply graph.

In case of negative externality the the costs to society are higher than the one reflected by the supply curve. In other words the social cost curve is further left to the quantity supplied curve. In case of positve externality the benefit curve is right to the the quantity demanded curve.

In view of the above explanation, we find that the social marginal cost curve P = 8 + Qs (intersects the Y-axis at 8) is left to the quantity supplied curve P = 4+ Qs (intersects Y - axis at 4). Further the quantity demanded curve and social marginal benefit curve are overlapping for negative externality (as there is movement only when there is a positive externality and no shift for negative externality)

Therefore, the fourth option P = 20 - Qd and P = 8 + Qs is the correct alternative.

Rahul Sunny answered 1 year ago

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