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Questions and Answers
The socially optimal quantity in the presence of a negative externality is:
The socially optimal quantity in the presence of a negative externality is:
Which of the following policies is an example of a market-based approach to reducing pollution?
Which of the following policies is an example of a market-based approach to reducing pollution?
According to the Coase Theorem, private solutions to externalities work best when:
According to the Coase Theorem, private solutions to externalities work best when:
Corrective taxes (Pigovian taxes) are used to:
Corrective taxes (Pigovian taxes) are used to:
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Which of the following is a reason why private solutions to externalities do not always work?
Which of the following is a reason why private solutions to externalities do not always work?
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Public goods are both non-excludable and non-rival in consumption, meaning they can be consumed by many people without reducing availability to others.
Public goods are both non-excludable and non-rival in consumption, meaning they can be consumed by many people without reducing availability to others.
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The free-rider problem occurs when individuals receive the benefits of a good without paying for it, leading to under-provision of that good in a market economy.
The free-rider problem occurs when individuals receive the benefits of a good without paying for it, leading to under-provision of that good in a market economy.
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Common resources are non-excludable but rival in consumption, leading to overuse and depletion.
Common resources are non-excludable but rival in consumption, leading to overuse and depletion.
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Fireworks displays are an example of a private good because the enjoyment of the display is exclusive to those who pay for it.
Fireworks displays are an example of a private good because the enjoyment of the display is exclusive to those who pay for it.
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The tragedy of the commons refers to the tendency for common resources to be overused and depleted because no one individual has an incentive to conserve them.
The tragedy of the commons refers to the tendency for common resources to be overused and depleted because no one individual has an incentive to conserve them.
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Study Notes
Socially Optimal Quantity
- The socially optimal quantity is the amount of a good or service that maximizes social welfare, considering both private costs and benefits as well as external costs.
- In the presence of a negative externality, the socially optimal quantity is less than the market equilibrium quantity.
- This is because the market equilibrium does not account for the external costs imposed by the production or consumption of the good.
Market-Based Solutions to Pollution
- Market-based approaches to reducing pollution use economic incentives to encourage polluters to reduce their emissions.
- Examples include pollution taxes, cap-and-trade systems, and subsidies for environmentally friendly technologies.
Coase Theorem
- The Coase Theorem states that private solutions to externalities are possible when:
- Property rights are well defined.
- Transaction costs are low.
- This means that bargaining between the parties involved can lead to an efficient outcome, even in the presence of externalities.
Corrective Taxes
- Corrective taxes, also known as Pigovian taxes, are taxes levied on activities that generate negative externalities.
- They are designed to internalize the external costs of these activities, bringing the market price closer to the socially optimal price.
Limitations of Private Solutions
- One reason why private solutions to externalities do not always work is that transaction costs can be high.
- Other reasons include:
- Difficulty in defining property rights.
- Information asymmetry.
- Free riding.
Public Goods
- Public goods are non-excludable, meaning that it is difficult or impossible to prevent individuals from consuming them, even if they do not pay for them.
- Public goods are also non-rivalrous, meaning that one person's consumption of the good does not reduce the amount available for others.
- Examples include national defense, clean air, and public broadcasting.
Free-Rider Problem
- The free-rider problem arises because individuals can benefit from a public good without contributing to its provision.
- This can lead to under-provision of public goods in a market economy, as individuals are less likely to pay for something they can get for free.
Common Resources
- Common resources are non-excludable, but rival in consumption, meaning that one person's use of the resource reduces the amount available for others.
- This can lead to over-exploitation of common resources, a concept known as the tragedy of the commons.
- Examples include fisheries, forests, and grazing land.
Fireworks Displays - Private Good Example
- Fireworks displays are an example of a private good, as their enjoyment is exclusive to those who pay for them.
- This is because the benefits are limited to those who are able to see and hear the fireworks display.
Tragedy of the Commons
- The tragedy of the commons refers to the tendency for common resources to be overused and depleted because no individual has an incentive to conserve them.
- Each individual focuses on their own short-term gain, leading to the depletion of the resource in the long run.
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