Page 733 - Microeconomics, Fourth Edition

c17ExternalitiesandPublicGoods.qxd 8/22/10 4:56 AM Page 707

17.2 EXTERNALITIES 707
The table in Figure 17.3 gives us another way to see that the tax in the graph is
economically efficient. Consumers pay the price P* for the chemical, resulting in a con-
sumer surplus equal to area A, the area under the demand curve and above P*. Private
s
producer surplus is areas F R, the area below the price producers receive P and above
the marginal private cost curve. The external cost is areas R H G, which is the
same as area Z. The government receives tax revenues equal to areas B G E H.
The net social benefits equal consumer surplus, plus private producer surplus, plus the
tax receipts, minus the external cost ( R H G)—that is, areas A B E F.
This is the same net benefit that we showed to be socially optimal in Figure 17.2. 4

LEARNING-BY-DOING EXERCISE 17.2
S
D
E
Emissions Fee
Consider a variation of the chemical man- curves. Label two points on the graph: the point
ufacturing example. Suppose the inverse demand curve that represents the equilibrium price and quantity
for the chemical (which is also the marginal benefit when there is no correction for the externality (i.e.,
d
curve) is P 24 Q, where Q is the quantity consumed no emissions fee) and the point that represents the
(in millions of tons per year) when the price consumers amount of the chemical the market should supply at
d
pay (in dollars per ton) is P . the social optimum. Indicate the actual price and
The inverse supply curve (also the marginal private quantity at each point.
cost curve) is MPC 2 Q, where MPC is the marginal • Graph the supply curve after the imposition of an
private cost when the industry produces Q. emissions fee that induces the production of an
The industry emits one unit of pollutant for each economically efficient amount of the chemical.
ton of chemical it produces. As long as there are fewer Indicate the price consumers will pay and the price
than 2 million units of pollutant emitted each year, the producers will receive.
external cost is zero. But when the pollution exceeds
2 million units, the marginal external cost is positive. • In the table, indicate the amount of the emissions
fee (dollars per unit) that will lead to the econom-
The marginal external cost curve is
ically efficient production of the chemical. Fill
0, when Q 2 in the table with the following information for
MEC e
2 Q, when Q 7 2 the equilibria with and without the fee (indicate
both the areas on the graph and the actual dollar
where MEC is marginal external cost in dollars per unit amounts): consumer surplus, private producer
of pollutant when Q units of pollutant are released. receipts from the fee, net social benefits, and
Also suppose the government wants to use an emis- deadweight loss.
sions fee of $T per unit of emissions to induce the market
to produce the economically efficient amount of the (b) Explain why the following sum is the same with and
chemical. without the fee: consumer surplus private producer
surplus external cost government receipts from the
Problem fee deadweight loss.
(a) Construct a graph and a table comparing the equilibria Solution
with and without the emissions fee:
(a) See Figure 17.4. The demand (marginal benefit)
• Graph the demand, supply (with no emissions fee), curve is D. The supply (marginal private cost) curve is
marginal external cost, and marginal social cost MPC. The marginal external cost curve is MEC (it has a

4 As we indicated in Chapter 10, one must be careful when using a partial equilibrium analysis like the one
in Figure 17.3. A change in the amount of the good consumed in one market may affect market prices,
and therefore welfare, elsewhere. Further, there may be additional welfare effects when the government
distributes the revenues from the emissions fee somewhere else in the economy. The welfare analysis in
Figure 17.3 does not capture these effects.