Question

S2 Si D2 Dr 0 Quantay Assume D1 reflects private benefits from consumption and assume S1 reflects private costs of production. If we begin with demand curve D1 and supply curve S1 in the figure above and external costs are incorporated into this market, then government should subsidize its production and shift supply from S1 to S2 the vertical distance between S1 and S2 equals external costs. O price will increase from P1 to P4. Ounderproduction equals Q3 minus Q1. O price will rise from P1 to P3.

Answer 1

Answer
Option 2
An external cost shifts the private cost curve to the right to the social marginal cost curve so the vertical distance between the curves is external cost.
The market should be taxed to internalize the externality and that is equal to externality.
the price increases from P1 to P2
the quantity is overproduced without intervention is Q3-Q1.