Economics 1: Principles of microeconomicsMonday, May 14, 2012Lecture 12Review:-Subsidy-> impact on the marketProduce more than market amountPreview:- Review of market and efficiencieso Conditions for market to work efficiently- Externalitieso External costso External benefitsD4 5DemandSSupply1.001.25Consumer behaviorWIlling to pay --> value consumer places on the goodProbable Question:Will consumer or producer pay more of a tax if demand is elastic?Producer behaviorValue of the goods not produced so this good can be producedEconomics 1: Principles of microeconomicsMonday, May 14, 2012Lecture 12SD^DMARKET A SB C DQ*NGS is area A, B, CCS is area A, B, 4.25PS is area C, B, 4.25P*P^*Q* Q^*Reroute resources to highest value use -Pure self interest4.25Everyone who values gas above $4.25 will be able to purchase gas at $4.25$ below $4.25, shortageConsumers will drive $ up$ above $4.25, surplusProducers will drive $ downEconomics 1: Principles of microeconomicsMonday, May 14, 2012Lecture 12Conditions for the market to operate efficientlyinformation is good and inexpensiveo consumers know what prices are and quality of the goodo producers know the cost of resources, technology, and the price consumers are willing to payo if cannot tell, then no signal is involvedproperty rights are/must be clearly defined and transferrableo if not transferrable, the property is not valuableEx.Property ownedUse A: $100,000 for residential area Use B: $300,000 for a hospitalIf transfer is forbidden, the opportunity cost is not lost -won't show up on the supply curveIf transfer is allowed and you don't give up property for Use B, then the opportunity cost is $300,000Property rights allow person to realize costs and benefits of their actionsExample:Graffiti on private home bathroom walls ---> value of house decreasesGraffiti on public bathroom walls ---> no harm to oneself ( no property rights )Externalities:  benefit or cost that is received or incurred by someone other than the buyer or sellerExternal Cost: a cost not paid by the producer S (social cost)S (private cost)$1$1$26$25P* marketQ^* Q* marketefficient is lessSocial costs: equal to private cost + external costCauses supply curve to shift up*Quantity sold is going to dropEconomics 1: Principles of microeconomicsMonday, May 14, 2012Lecture 12 S private M External costN D Q^* (100) Q* market (110)Last 10 units cost more than what the consumers valuedExternal cost: cost imposed on someone elseEx. Dumping into the river affects those living down the riverSo, the costs the company imposed on society in generalS social cost: true cost of our activityS private: factory paying for labor and raw goods; costs company itself realizesWe have produced more than the efficient amount; sold too much.Since the market was unable to account for all of producer costs, too much was produced. The units between Q* efficient and Q* market cost more to produce than the values the consumers receive from them, creating a dead weight loss of L, M, NExternal Benefit:-If benefit is to someone other than the buyer/seller-benefit is received by a party who is not the buyer or sellerP^* efficientP* marketLefficientS social costEconomics 1: Principles of microeconomicsMonday, May 14, 2012Lecture 12Ex. City Parks --> not many are privately ownedCreating a city park w/ open land space- YOU incur the costs- neighborhood around the area get the benefitsX y ZD social benefitsExternal benefitsQ*market D privately provided benefits to park Q^*efficiencies The market, by not transmitting all of the benefits leads to an underproduction of Q*efficient - Q* market, where the cost of production is less than the value of those units, creating a dead weight loss of X, Y, Z