Question

1. Provide three activities that generate external costs. Describe each one.
2. Why does an effective price ceiling appear below the equilibrium rather than above it?
3. What is deadweight and what can make it happen?

Answer 1

ANSWER.

External cost means a negative effect on a third party from the production or consumption of a good. If there are external costs in consuming a good, the social costs will be greater than than the private cost.

Eg: 1.Driving a car creates costs to other people in the society like greater congestion and slower journey times for other drivers, cause of death for pedestrians and other road users, the problem of pollution to the society.etc

2. Producing electricity from burning coal leads to air pollution and acid rain.

3. Smoking in an enclosed space causes health risks to other people in the room.

Price ceiling.

The price ceiling occurs when the government puts a legal limit on price which holds the market price below the equilibrium price. It must be below the natural market equilibrium, to make it beneficial to society. Due to the price ceiling price cannot rise above a certain level. This helps the poor people to buy the necessities at lower prices.

Deadweight

Deadweight is the loss of economic efficiency in terms of utility for consumers or producers such that the optimal efficiency is not achieved. In other words, it can be stated as the loss of total welfare or the social surplus due to reasons like taxes or subsidies, price ceilings or floors, externalities, and monopoly pricing. For example, if a certain tax is imposed on the producer for each unit of the good he sells, then a new equilibrium price will be settled which will be higher, as aresult the tax burden will be passed on to the consumer.Because of the higher price there will be reduced trade.The loss of welfare due to the shift from earlier to this less efficient market mechanism is called the deadweight loss of taxation .