Sunday, September 28, 2014

Market Failure 3 - Negative Consumption Externalities

Negative Consumption Externalities

Negative Consumption Externality: The name of the externality tells you what you need to do!

Negative = Negative (duh!) (we want less of it)
Consumption  = Benefits = Demand (there will be two Demand curves, MSB & MPB)
  • Negative = we want less
  • Consumption = benefits = demand
  • Triangle = DWL (dead weight loss) (points to society) & is between the two demand curves
  • SOQ = Socially Optimal Quantity or the quantity desired by society (Neg.=less quantity)
  • Overproduction =  If we want less we must be over producing the good (duh!)
  • MSB = MSC, obviously where social benefits and costs equal,  equilibrium quantity- Q*
  • Indirect tax pushes costs higher, shifting supply left, causing higher prices
  • CLG - always a correctly labelled graph
  • Triangle - always points to society - to help you know which demand/cost curve is drawn above or below, know that the triangle always points to (MSB) society for a Negative Consumption Externality... Your going to say,, but Charles, I could draw the curve pointing to the right and still have it between the curves,,, but then the triangles point will be pointing to an equilibrium of more production (we want less). 
  • Indirect tax equal to the external costs of consumption is needed to decrease supply and to increase the price of the good. 
  • Check your graph and make sure it is showing what you want,,, to get less production prices must go higher. (look above and you will see this is exactly what has happened, prices have increased (with the tax) and quantity produced has fallen.)
Examples: (drugs, alcohol, cigarettes) also known as demerit goods.

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