bài giảng kinh tế vi mô tiếng anh ch18 externality

1
Chapter 18
Externalities
Main topics
1. externalities
2. inefficiency of competition with
externalities
3. market structure and externalities
4. allocating property rights to reduce
externalities
5. common property
6. public goods
Externalities
externality occurs if
• someone's consumption or production
activities hurt or help others outside a
market
• well-being of a consumer or production
capability of a firm are affected directly by
actions of other consumers or firms, rather
than indirectly through changes in prices
Examples
• firm whose production process lets off
fumes that harm its neighbors is creating an
externality for which there is no market
• firm is not causing an externality when it
harms a rival by selling extra output that
lowers market price
Positive and negative
externalities
• externalities may either help or harm others

• externality that harms someone is a negative
externality
• positive externality benefits others
• action may confer positive externalities on
some people and negative externalities on
others: wind chimes (though it’s hard to
imagine the positive ones)
Los Angeles air
an atmospheric scientist reports that
cleaning up LA air over last decade
• helped people breathe
• caused radiation levels to increase more
rapidly than they would have risen if air had
remained dirty
2
Michael Jordan: Positive
externality
• Jordan's presence raised 1991-92 regular
season away games
• ticket revenues $2.5 million
• local TV advertising revenues: $2.4 million
• positive externality: extra revenues went to
home team rather than to Bulls
Additional externalities
• Jordan's presence increased national earnings
• TV advertising: $6.6 million regular season; $13.9
million playoffs
• NBA Properties (clothing and videos) by $15.1 million
• shared equally by all teams, so externality
• total value of Jordan's positive externalities was

$40.3 million
Inefficiency of competition with
externalities
• competitive firms and consumers do not
have to pay for harms of their negative
externalities
• so they produce excessive pollution
Assumptions
• competitive paper market
• firms produce paper and gunk (by-products): air
and water pollution that harm people who live
near paper mills
• each ton of paper produced increases the amount
of gunk by 1 unit
• only way to decrease volume of gunk is to reduce
the amount of paper manufactured
• paper firms do not have to pay for harm from
pollution they cause
Private vs. social costs
• private cost: cost to firm of production only,
not including externalities:
• direct costs of labor, energy, and wood pulp
• but not indirect costs of harm from gunk
• social cost: private cost plus cost of harms
from externalities
Supply-and-demand analysis
• competitive market produces excessive pollution
because firms' private costs < social costs
• maximizes welfare: sum of CS and social PS
(based on the social marginal cost curve)

• social optimum
• welfare is maximized where price equals social MC
• optimal tradeoff between value of production and
pollution harm
3
Figure 18.1 Welfare Effects of Pollution in a Competitive Market
Price of paper, p,
$ per ton
Demand
MC
p
MC
g
MC
g
MC
s
=MC p
+
MC
g
450
p
s
= 282
p
c
= 240
30
84

198
Q
c
=
105Q
s
=
84 2250
e
c
e
s
A
B
F
CD
E
H
G
G, Units of gunk per day
Q, Tons of paper per day
MC
p
Reducing externalities
• competitive markets produce excessive
negative externalities
• hence government intervention may benefit
society
Government expenditures
• expenditures on environmental protection as a

percentage of GDP range between a 0.2 to 1%:
• 0.2% Italy
• 0.4% Portugal, United Kingdom
• 0.6% United States, Spain
• 0.7% Sweden
• 0.8% Germany, Switzerland
• 1.0% Austria, Denmark, and Japan
• world's poorest countries spend little if anything
on pollution control
Emissions relative to economic
output
• developing countries
• China emitted 2,095 metric tons of carbon per million
dollars of GDP
• Soviet Union, 1,517
• India, 602
• Mexico, 586
• developed countries
• United States, 279
• Great Britain, 216
• Japan, 101
Government intervention
• direct approach: emissions tax, fee, effluent
charge
• indirect approach: emissions standard
(quantity restrictions on outputs or inputs)
• because output and pollution move together,
regulating either works
Figure 18.2 Taxes to Control Pollution
Price of paper,

p, $ per ton
Demand
MC
p
MC
g
MC
s
= MC
p
+(tQ)
MC
p
+
τ
τ
=84
450
p
s
= 282
MC
p
= 198
MC
g
= 84
Q
s
=

84 2250
e
s
G, Units of gunk per day
Q, Tons of paper per day
4
Optimal regulation
• unfortunately, government usually does not
know enough to regulate optimally
• government needs to know:
• marginal social cost curve
• demand for paper curve
• how pollution varies with output
Enforcement
• even if government knows enough to set optimal
regulation, it must enforce regulation to achieve
social optimum
• U.S. Environmental Protection Agency (EPA)
smog standards violated in 33 metropolitan areas
• including Baltimore, Boston, Chicago, Houston, Los
Angeles, Milwaukee, New York, and Philadelphia
• />•
•
Cost-benefit analysis
• instead of using the supply-and-demand
analysis to show that competitive market
produces too much pollution
• use a cost-benefit diagram
• welfare is maximized by reducing output
and pollution until the marginal benefit

from less pollution equals the marginal cost
of less output
Figure 18.3
Cost-Benefit Analysis
of Pollution
Benefit, Cost, $
Cost: less paper
Benefit: les s gu nk
Maximum
net
bene fit
84 63105
0
84105
G, Units of gunk per day
Q, Tons of pa per per day
G, Units of gunk per day
Q, Tons of pa per per day
(a) Cost and Benefit
Margina l be nef it,
Marginal cost, $
(b) Marginal Cost and Marginal Benefit
4,000
2,000
105
84
0
MC
MB
Emission standards for ozone

• ozone is a major air pollutant
• it is formed in the atmosphere through a
chemical reaction between organic gases
and nitrogen oxides in sunlight
Standards
• Clean Air Act of 1990 sets national air-
quality standards for major pollutants:
> 0.12 parts per million (ppm)
• California Air Resources Board (CARB)
has an even tighter standard: 0.09 ppm
5
Costs and benefits
• cost of reducing ozone: greater expenses of
• manufacturing
• driving
•benefit
• better health in urban areas
• increased agricultural yields in rural areas
• consequently, optimal level differs in urban
and rural areas
Los Angeles
• benefits of reducing ozone level > costs over past
several decades
• however, CA standards may be too strict even in
LA (worst air pollution problem in U.S.)
• Krupnick and Portney (1991) est. that reducing
ozone to CA standard has an annual
• benefit to human health and materials of about $4
billion
• annual cost about $13 billion

Rural areas
• is CA standard too strict for an agricultural area
• according to the CARB, crop losses due to high
ozone levels range from
• 8.4% for alfalfa hay
• 32% for oranges
• CARB claims production yields fall for ozone-
sensitive crops such as beans, cotton, grapes,
lemons, and oranges even at ozone levels as low
as 0.09
San Joaquin Valley
• produces 60% of CA crops and 9% of U.S.
crops
• has second-worst air quality in CA (after
LA)
• Kern County in 1990:
• ozone went up to 0.17 ppm one day
• 0.09 ppm standard was surpassed on 120 days
• 0.12 ppm standard was exceeded 37 days
Estimated benefits and costs
• Kim, Helfand, and Howitt (1998) estimate that
meeting the CA’s 0.09 ppm standard
• health benefits range from $2.58 million to $51.58
million
• consumer surplus ranges from $229 million to $270
million
• producer surplus ranges from $297 million to $348
million
• welfare is maximized at slightly below 0.14 ppm
(conservative estimates)

• substantial benefits from reducing pollution
Emissions Standards
for Ozone
0.12 0.11 0.10 0.090.16 0.15 0.14 0.13
Ozone concentration, ppm
Margina l be nef it,
Marginal cost, $ millions
400
300
200
100
MC
MB
0.12 0.11 0.10 0.090.16 0.15 0.14 0.13
Ozone concentration, ppm
State standardFederal standardOptimal
Cost
Benefit
Benefit, Cost, $ mi llions
(a) Cost and Benefit
1,000
800
600
400
200
(b) Marginal Cost and Marginal Benefit
6
Monopoly and externalities
• monopoly output may be less than social
optimum even with an externality

• competition is not necessarily better than a
monopoly with an externality
Figure 18.4 Monopoly, Competition, and Social Optimum with
Pollution
Price of paper,
p, $ per ton
Q, Tons of paper per day
DemandMR
MC
p
MC
g
MC
s
= MC
p
+ MC
g
450
330
310
282
240
30
84 105 22570600
e
m
e
c
e

s
e
t
AB
C
D
Allocating property rights
• property right: an exclusive privilege to use
an asset
• Coase Theorem: optimal levels of pollution
and output results from bargaining between
polluter and their victims if property rights
are clearly defined
• parties generally won’t negotiate unless
property rights are clearly assigned
Right to be free from pollution
• boat rental firm has a property right to be free
from pollution
• rather than shut down, chemical company offers to
pay the boat rental firm for the right to dump its
waste
• boat rental firm insists on making at least $15
(max it can earn if chemical company does not
produce)
• largest bribe chemical company will pay leaves it
with a positive profit
• one possibility: chemical company offers boat
rental firm $7 per ton for right to dump
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Right to pollute

• chemical company has the property right to
dump in the lake
• boat rental firm could bribe chemical
company to reduce its pollution
• for example, boat rental could offer $6 per
ton for each ton less than 2 that the
chemical company dumps
Coase Theorem results
• if there are no impediments to bargaining,
assigning property rights results in efficient
outcome: joint profits are maximized
• efficiency is achieved regardless of who is
assigned the property rights
• who gets the property rights affects the
income distribution (property rights are
valuable)
Problems with Coase approach
• Coase approach works only if
• property rights clearly defined
• parties can bargain successfully
• three common causes of bargaining failure
• transaction costs are very high
• firms engage in strategic bargaining behavior
• either side lacks information about costs or
benefits
Markets
• many economists argue in favor of using
markets
• to do so, government must first assign
property rights and let them be traded

• important example: U.S. Clean Air Act of
1990 created market for sulfur dioxide (see
text)
Common property
• common property: resources to which everyone
has free access
• overuse of common property because people don’t
have to pay to use it
• examples
• fisheries
• common pools (petroleum, water…)
• internet
• roads
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Government response
• overuse occurs because individuals do not bear the
full social cost
• governments apply tax or fee so that individuals
internalize the externality
• example: bridge toll
• some economists estimate that optimal toll on S.F. Bay
Bridge is at least $3.60 (current fee is $2)
• optimal fee would save commuters 20.6 minutes per
day (compared to no toll)
Private goods
private goods have properties of
• rivalry: only one person can consume the
good (it is depletable)
• exclusion: others can be prevented from
consuming the good

Public goods
• public good: commodity or service whose
consumption by one person doesn’t preclude
others from also consuming it
• example: national defense
• public good lacks rivalry
• some public goods lack exclusion
• produce positive externality
• excluding anyone from consuming them is inefficient
Club good
• public good with exclusion (e.g., tennis
club)
• similarly, concert:
• security guards prevent people who don’t have
tickets from entering a concert hall
• marginal cost of adding one more person is
zero as long as hall is not filled
Club good
• public good with exclusion (e.g., tennis
club)
• similarly, concert:
• security guards prevent people who don’t have
tickets from entering a concert hall
• marginal cost of adding one more person is
zero as long as hall is not filled
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Markets for public goods
• exist only if nonpurchasers can be excluded
from consuming them
• thus markets do not exist for nonexclusive

public goods
• if government doesn’t provide a
nonexclusive public good one, usually no
one will
Exclusive public goods
markets tend to produce too little of an
exclusive public good because of lack of
rivalry
• Microsoft’s marginal cost for one more unit is
virtually zero
• it’s price is much higher
Demand for public goods
• market demand curve is social marginal benefit
curve
• private good
• social marginal benefit = private marginal benefit
• market demand is horizontal sum of the demand curve
of individuals
• public good
• social marginal benefit is sum of marginal benefit to
each consumer
• market demand (willingness-to-pay) curve is vertical
sum of individuals’ demand curves
Figure 18.5 Inadequate Provision of a Public Good
Price of guard service,
$ per hour
Guards per hour
Supply, MC
25
18

13
10
8
7
3
2
57 940
e
p
e
s
D
1
D
D
2
Free riding
• benefit from actions of others without
paying
• people are often unwilling to pay for their
share of a public good
Two stores share a guard
• cost is $10 per hour
• benefit to each store is $8
• social optimum: hire guard because social
benefit, $16 per hour, exceeds marginal cost
• stores acting independently won’t hire
•vote:
• if both vote for guard, they split cost
• if only one votes for guard, bears full cost

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Free riding on water
• Perth, Australia
• water is a private good for most households
• pay the price of each unit
• most households are individually metered
• 10% share meters (duplexes, apartments) -
on average 11 of these households share a
mete
Extra consumption from shared
meters
compared to households with private meters
• consume 17% more water on average
• 2-family duplexes consume only 0.05 kiloliters
more
• 10 housing units in a block average 1.3
kiloliters more
• 222 member housing unit in a block average
640 extra kiloliters
Providing public goods
• to ensure that nonexclusive public good is
provided, government usually
• produces it
• compels others to do so
• government has difficulty learning cost and
benefits
• government learns benefit (value of public good)
by
• survey
• citizens vote

Voting
• whether majority votes for a public good
depends on preferences of
• median voter:
• person with respect to whom half the populace
values the project more and half less
• efficient to provide public good if value F
cost
• majority voting may not lead to efficiency
Example
• traffic signal costs $300 to install
• 3 voters
• thus, each votes for signal only if person thinks
signal is worth at least $100 (tax person will
pay)
• 3 cases (corners) in table
• in each case, Hayley is median voter, so her
views signal outcome
• vote doesn’t always lead to efficiency
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1. Externalities
• externality occurs when a consumer’s well-
being or a firm’s production capabilities are
directly affected by actions of others rather
than indirectly affected through changes in
price
• pollution is a negative externality
2. Inefficiency of competition
with externalities
• because producers don’t pay for harm from

their negative externalities, their private
costs < social costs
• thus, competition leads to excessive
production of externalities
• if government action leads to firms
internalizing externality, problem is avoided
3. Market structure and
externalities
• noncompetitive market may produce too
little, too much, or the optimal amount of
output and externalities
• thus, competition is not necessarily better
than monopoly with externalities
• pollution tax that would be optimal in a
competitive market may exacerbate
monopoly externality problem
4. Allocating property rights to
reduce externalities
• externalities arise because property rights
are not clearly defined
• Coase Theorem: allocating property rights
to either party results in an efficient
outcome if parties can bargain
• bargain is often costly or otherwise difficult
5. Common property
• common property is a resource to which
everyone has free access
• they are overexploited because people
ignore externalities
• example: delays due to congestion on a

bridge
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6. Public goods
• public goods lack rivalry
• once public good is provided to anyone, it can be
provided to others at no extra cost
• excluding anyone from consuming a public good
is inefficient
• markets provide too little of a nonexclusive public
good
• government has difficulty learning how much
public good is valued