Transcript lec21bw - People.vcu.edu

Today
 Review table on monopolistic competition
 Externalities—Ch. 30
Table 1a
Perfect Comp
Firms are price takers
Monopolistic
Competition
Firms are price
makers
Monopoly
Firms are price makers
Choose q where P=MC Choose q where
MR=MC
Choose q where
MR=MC
In SR, P AVC in
order to produce.
In SR, P AVC in
order to produce.
In SR, P AVC in
order to produce.
In LR, P ATC in order In LR, P ATC in
to produce.
order to produce
In LR, P ATC in order
to produce.
Firms face perfectly
Firms face
elastic demand for their downward-sloping
product.
market demand.
Firms face downwardsloping market
demand.
Table 1b
Perfect Comp
Monopolistic
Competition
Monopoly
No profits or losses in
LR
No profits or losses in
LR
May have profits in LR
No barriers to entry or
exit
Barriers to Entry
Barriers to Entry
Firms produce at
lowest possible LRAC
Produce on
downward-sloping
portion of LRAC
May or may not
produce at lowest
possible LRAC
In LR equilibrium, P =
MC
In LR equilibrium, P
> MC
In LR equilibrium, P >
MC
Table 1c
Perfect Comp
Monopolistic
Competition
Monopoly
No need for
advertising, goods are
homogeneous
Advertising may
increase demand for
product
Advertising may
increase demand for
product
Brand name is
unimportant to
consumers
Brand name is often
very important
Only one brand to
choose from
Externality
 When an individual course of action affects
others beyond the amount considered by
that individual.
Negative externality
 The individual course of action imposes
costs on others.
Example: Bob’s smoking
 Costs to Bob



Cost of cigarettes
Cost to own health
Cost of keeping home and clothes clean
 Costs to others from Bob’s smoking



Health costs from second-hand smoke
Cost of cleaning home, clothes
Increased price of health insurance due to
inclusion of smokers in group rates.
Social Costs
 The social cost of the activity is the private
cost plus the external cost.
 The social cost of one person smoking
includes the costs to the smoker plus the
costs to others.
Social Benefits
 The social benefits are equal to the private
benefits plus any external benefits.
 Assume no external benefits from Bob
smoking.

Note: if there are external benefits, that is a
positive externality, see below.
 Then the social benefits of Bob smoking are
just the private benefits that Bob gets.
Costs versus Benefits
$/Cigarette
Marg.
Ext.
Cost
Marginal Benefit (Bob)
How much will Bob
smoke?
How much is
optimal?
Marginal Social Cost (to
Bob & to others)
Marginal Private Cost (to Bob)
Bob’s choice versus society’s
$/Cigarette
Marginal Benefit
How can society get
Bob (& others) to
smoke less?
Social costs exceed
benefits.
Marginal Social Cost
Marginal Private Cost
Optimal Bob’s
for society choice
Cigarettes/
day
A Tax to Correct Negative
Externalities
 Society wants Bob to internalize the
external costs of his smoking.
 One way to do that is to tax cigarettes.
 The amount of the tax per cigarette should
equal the costs to others from Bob’s
smoking.
A Tax on Cigarettes
$/Cigarette
Marginal Benefit
Use a tax to force Bob
to pay the full costs of
his smoking.
Marginal Social Cost =
Marg. Private Cost + tax
Tax
per
cig.
Marginal Private Cost
Optimal
Bob’s
choice if
taxed
Cigarettes/
day
Pollution as a Negative
Externality
 Industrial production often creates pollution of air
or water as a by-product.
 Public policy options for dealing with pollution




Ban pollution
Tax pollution
Establish maximum rates of pollution per firm
Issue a limited number of permits to pollute, allow
them to be traded. (Used for CO2 in US)
The Tragedy of the Commons
Why is the copier always out of paper
or in a paper jam?
“The Commons”
 Historically, refers to common grazing land
for a town.
 In economics, refers to any situation in
which a resource is used by many people,
none of whom owns the resource.
What happened in “The
Commons”?
 The private cost of grazing your sheep in
the commons was zero.
 The social cost wasn’t, because once your
sheep ate the grass, it wasn’t there for the
next farmer.
 The commons were routinely over-grazed,
because nobody had an incentive to make
sure the grass had time to grow back.
Current “Tragedies”
 Fishing in the ocean

There are no property rights to fishing grounds
in international waters. Fisherman have no
incentive to let the population recover.
 The shared copier


The cost of fixing the paper jam is higher than
the benefits one person expects to get out it.
Tendency to move on to another machine, or
wait until someone else fixes the problem.
Other Tragedies
 Air Quality


We drive our cars without regard to the marginal cost to
society of the air pollution.
Gasoline taxes help.
 Use of Outer Space

Without some sort of controls, likely to see so much
debris and so many satellites that the use of space is
impaired.
 Public restrooms
Positive externality:
 The individual course of action imposes
benefits on others.
 The social benefit of an activity is greater
than the private benefit.
Examples of Positive Ext.
 Education: Makes people better citizens.
These benefits are in addition to the private
benefits.
 Attractive architecture, landscaping, etc. at
your house increases the value of the
neighbors’ houses.
 Vaccinations: When one person is
vaccinated, it helps the rest of us because
we are less likely to catch the disease.
The Role of the Government &
Externalities
 Governments can use taxes to discourage
activities with negative externalities.
 They can use subsidies to encourage
activities with positive externalities.
Government Regulation
 Planning commissions or architectural
review boards are used to create positive
externalities rather than negative ones.
 Commercial activities tend to be zoned
separately from residential neighborhoods.
 Property owners may be required to
preserve historic buildings or to
complement existing buildings.
Coming Up
 Review for third midterm exam
Group Work-Externalities
 List 3 examples of negative externalities
(not already mentioned in class). How does
society address each?
 List 3 examples of positive externalities
(not already mentioned in class). How does
society address each?
 Write out your answers.