Private cost and social cost of pollution Chapter 17 Private cost a cost that is borne by the producer of a good or service Marginal cost is the cost of producing an additional unit of a good or service Marginal private cost MC the cost of producing an additional unit of a good or service that is borne by its producer External cost a cost of producing a good or service that is not borne by the producer but borne by other people Marginal external cost the cost of producing an additional unit of a good or service that falls on people other than the producer Marginal social cost MSC the marginal cost incurred by the producer and by everyone else on whom the cost falls by society o MSC marginal cost marginal external cost Marginal cost increases as the quantity increases Efficient equilibrium occurs where marginal social cost marginal social benefit How can people limit pollution Property rights Coase theorem o Property rights legally established titles to the ownership use and disposal of factors of production and goods and services that are enforceable in the courts o Coase theorem the proposition that if property rights exist if only a small number of parties are involved and if transactions costs are low then private transactions are efficient it does not matter who has the property rights Transactions costs the opportunity costs of conducting a transaction i e a realtor helping you buy a house Government Actions in a Market with External Costs Taxes o Government can use taxes as an incentive for producers to cut back the pollution they create called Pigovian taxes o Generates tax revenue Emission charges pollution Cap and trade o Emission charges an alternative tax for confronting a polluter with the external cost of o Instead of taxing or imposing emission charges on polluters each potential polluter might be assigned a permitted pollution limit o Governments give each firm a permit to emit a certain amount of pollution and firms can trade these permits The Tragedy of the Commons Tragedy of the commons the overuse of a common resource that arises when its users have no incentive to conserve it and use it sustainability Sustainable use of a new resource o Renewable natural resource a resource that replenishes itself by the birth and growth of new members of the population i e fish trees and fertile soil o sustainable amount is the quantity that can be taken year after year without depletion of the stock the overuse of a common resource impose on others o marginal private cost o people who overuse a resource only face their own private cost not the cost they marginal private cost the additional cost incurred by keeping a boat and crew at sea for long enough to increase the catch by one ton marginal private cost increases as the quantity of fish caught increases o marginal external cost marginal external cost the cost per additional ton that one fisher s production imposes on all other fishers marginal external cost increases as the quantity of fish caught increases o marginal social cost marginal social cost the marginal private cost plus the marginal external cost increases as the quantity of fish caught increases o marginal social benefit and demand marginal social benefit the price that consumers are willing to pay for an additional pound of fish marginal social benefit decreases as the quantity of fish consumed increases so the demand curve slopes downwards o overfishing equilibrium marginal social cost exceeds marginal social benefit over fishing marginal social benefit exceeds marginal social cost under fishing o efficient equilibrium where marginal social benefit equals the marginal social cost Achieving an Efficient Outcome property rights o private property a resource that someone owns and has an incentive to use in the way that maximizes its value o to fix tragedy of the commons you can convert a common resource to private property o when private property rights over a resource as established and enforced the marginal social cost curve becomes the marginal private cost curve and the use of the resource is efficient production quotas specified period o production quota an upper limit to the quantity of a good that may be produced in a o the quota is allocated to individual producers so each producer has its own quota o problems with production quota every fisher s goal is to catch more fish than the quantity permitted under the quota they will want to not follow the quota marginal cost is not the same for all producers and thus a production quota would not be accurate for everyone individual transferable quotas ITQs o ITQ a production limit that is assigned to an individual who is then free to transfer sell the quota to someone else o The market price of an ITQ is the highest price that someone is willing to pay for one marginal social benefit minus marginal cost