Question

If the production of a good generates a positive externality, then:

Multiple Choice

• production of the good is harmful.

• there will be deadweight loss at the market equilibrium quantity.

• total economic surplus will be maximized at the market equilibrium quantity.

• the government should tax producers of the good.

Answer 1

ANswer

Option 2

there will be a deadweight loss at the market equilibrium quantity.

An externality is a cost or benefit to the third party from an activity or business.

A positive externality means to benefit from an activity or transaction to the third party.

The economic surplus is maximum where marginal social cost equal to marginal social benefits but at the market equilibrium the marginal private cost is equal to marginal private benefits so there is a deadweight loss as the social economic surplus is lower than the socially optimum level. To produce social optimum level the government needs to provide a subsidy.