Chapter 18-Externalities and Public Goods.ppt

,Chapter 18,Externalities and Public Goods,Chapter 18,Slide 2,Topics to be Discussed,ExternalitiesWays of Correcting Market FailureExternalities and Property RightsCommon Property Resources,Chapter 18,Slide 3,Topics to be Discussed,Public GoodsPrivate Preferences for Public Goods,Chapter 18,Slide 4,Externalities,NegativeAction by one party imposes a cost on another partyPositiveAction by one party benefits another party,Chapter 18,Slide 5,External Cost,ScenarioSteel plant dumping waste in a riverThe entire steel market effluent can be reduced by lowering output(fixed proportions production function),Chapter 18,Slide 6,External Cost,ScenarioMarginal External Cost(MEC)is the cost imposed on fishermen downstream for each level of production.Marginal Social Cost(MSC)is MC plus MEC.,External Costs,Firm output,Price,Industry output,Price,Chapter 18,Slide 8,External Cost,Negative Externalities encourage inefficient firms to remain in the industry and create excessive production in the long run.,Chapter 18,Slide 9,Externalities,Positive Externalities and InefficiencyExternalities can also result in too little production,as can be shown in an example of home repair and landscaping.,Chapter 18,Slide 10,External Benefits,Repair Level,Value,Is research and development discouraged by positiveexternalities?,Chapter 18,Slide 11,Ways of Correcting Market Failure,Assumption:The market failure is pollutionFixed-proportion production technologyMust reduce output to reduce emissionsUse an output tax to reduce outputInput substitution possible by altering technology,Chapter 18,Slide 12,The Efficient Level of Emissions,Level of Emissions,2,4,6,Dollarsper unitof Emissions,0,2,4,6,8,10,12,14,16,18,20,22,24,26,Assume:1)Competitive market2)Output and emissions decisions are independent3)Profit maximizing output chosen,Why is this more efficientthan zero emissions?,Chapter 18,Slide 13,Ways of Correcting Market Failure,Options for Reducing Emissions to E*Emission StandardSet a legal limit on emissions at E*(12)Enforced by monetary and criminal penaltiesIncreases the cost of production and the threshold price to enter the industry,Chapter 18,Slide 14,Standards and Fees,Level of Emissions,Dollarsper unitof Emissions,Chapter 18,Slide 15,Options for Reducing Emissions to E*Emissions FeeCharge levied on each unit of emission,Ways of Correcting Market Failure,Chapter 18,Slide 16,Standards and Fees,Level of Emissions,Dollarsper unitof Emissions,Chapter 18,Slide 17,Standards Versus FeesAssumptionsPolicymakers have asymmetric informationAdministrative costs require the same fee or standard for all firms,Ways of Correcting Market Failure,Chapter 18,Slide 18,The Case for Fees,Level of Emissions,2,4,6,Fee perUnit ofEmissions,0,1,2,3,4,5,6,7,8,9,10,11,12,13,1,3,5,14,The cost minimizing solutionwould be an abatement of 6for firm 1 and 8 for firm 2 andMCA1=MCA2=$3.,Chapter 18,Slide 19,Advantages of FeesWhen equal standards must be used,fees achieve the same emission abatement at lower cost.Fees create an incentive to install equipment that would reduce emissions further.,Ways of Correcting Market Failure,Chapter 18,Slide 20,The Case for Standards,Level of Emissions,Fee perUnit ofEmissions,0,2,4,6,8,10,12,14,16,2,4,6,8,10,12,14,16,Chapter 18,Slide 21,Summary:Fees vs.StandardsStandards are preferred when MSC is steep and MCA is flat.Standards(incomplete information)yield more certainty on emission levels and less certainty on the cost of abatement.,Ways of Correcting Market Failure,Chapter 18,Slide 22,