Question

1. Externalities - Definition and examples Aa Aa E An extemality arises when a firm or person engages in an activity that influences the well-being of a third party, yet neither pays nor receives any compensation for that effect. If the impact on the third party is beneficial, it is called a extemality. With this type of extemality, in the absence of goverment intervention, the equilibrium quantity produced will be _ than the efficient quantity. The following graph shows the demand and supply curves for a good with this type of externality. The drop lines on the graph reflect the free market equilibrium price and quantity for this good. Shift one or both of the curves to reflect the presence of thexternality. That is, if the marginal social cost (MSC) of producing the good is not equal to the private cost (Supply), then you should shift the supply curve to reflect the social costs of producing the good; similarly, if the marginal social benefit (MSB) of producing the good is not equal to the private benefit (Demand), then you should shift the demand curve to reflect the social benefits from consuming the good, Tool tip: Click and drag one or both of the curves. Curves will snap into position, so if you try to move the curve and it snaps back to its original position, just try again and drag it a little farther. DOLLARS Dollars Supply Demand OLIANTITY

Answer 1

1) The type of externality which is beneficial to the third party is called positive externality.

In absence of government intervention, the market equilibrium quantity produced would be less than the efficient one. This is because the market fails to recognise the benefits other have because of the good or service produced (positive externality).

Price Social value or MSB Private benefits Supply QOQTQuantity

The social benefits exceed the private benefits in case of positive externality. This is because the society is gaining more than the individual. Hence the efficient quantity produced would be Q1 which is more than the market equilibrium of Q1.

Birds chirping and disturbing would not be positive externality as it disturbs the people.

Jake beautifying the garden is increasing the beauty of neighborhood and hence is a positive externality.

The local airport is causing increased noise pollution which won't be a positive externality.

Increasing the research budget would do good to both the company and society and hence is a positive externality.

So 2) and 4) are positive externalities.