Negative Externality

Requires a Wolfram Notebook System
Interact on desktop, mobile and cloud with the free Wolfram Player or other Wolfram Language products.
A negative externality is a type of market failure in which an individual does not bear the full cost of a good or service. A good with a negative externality imposes external costs on society beyond those paid for by the consumer. In this example, the socially optimal point is point , where marginal social cost MSC is equal to marginal social benefit MSB. At this level,
units of the good are sold for a price
. However, the market operates at point
because individuals are concerned with their marginal private costs MPC rather than the social costs. We see that the cost per unit for the consumer is lower than the cost per unit to all of society, and the result is over-consumption of the good at level
along with deadweight loss DWL, which is the loss to the economy due to transactions that do not occur because a market is not operating at its optimal point. By taxing the good, the government increases the marginal private cost to lower the level of consumption down to the socially optimal
.
Contributed by: Nicholas Palmer (June 2015)
Open content licensed under CC BY-NC-SA
Snapshots
Details
The tax is referred to as a Pigouvian tax because economist Arthur Pigou was the first to develop the idea of economic externalities. He argued that when the private cost of a good is lower than the social cost, taxing the good forces the consumer to internalize the social cost, thereby making it more expensive to consume a good and decreasing the level of output to the socially optimal level.
Marginal social cost MSC is the cost imposed on society by the consumption of one additional unit of a good. Marginal private cost MPC is the cost imposed on the individual consumer through the consumption of one additional unit of a good. Marginal social benefit MSB is the gain or benefit to society as a result of the consumption of one additional unit of a good.
Permanent Citation
"Negative Externality"
http://demonstrations.wolfram.com/NegativeExternality/
Wolfram Demonstrations Project
Published: June 9 2015