1 1 BA 210 Lesson III.4 ExternalitiesOverviewOverview.

1 1BA 210 Lesson III.4 ExternalitiesBA 210 Lesson III.4 Externalities

OverviewOverview

OverviewOverview

2 2

Lesson OverviewLesson Overview

BA 210 Lesson III.4 Externalities

Chapter 17 ExternalitiesChapter 17 ExternalitiesOptimal Taxes on ConsumptionOptimal Taxes on ConsumptionOptimal Taxes on ProductionOptimal Taxes on ProductionOptimal Subsidies on ConsumptionOptimal Subsidies on ConsumptionOptimal Subsidies on ProductionOptimal Subsidies on ProductionControversy: The Value of Human LifeControversy: The Value of Human LifeSummarySummaryReview QuestionsReview Questions


Optimal Taxes on ConsumptionOptimal Taxes on Consumption



Introductory Example to Optimal TaxesIntroductory Example to Optimal TaxesSuppose cigarettes cost $1.00 to produce each pack, and there are Suppose cigarettes cost $1.00 to produce each pack, and there are enough competing producers that the no-tax market price equals enough competing producers that the no-tax market price equals unit cost, $1.00. Suppose my benefits from smoking are: first unit cost, $1.00. Suppose my benefits from smoking are: first pack, $2.30; second, $1.60; third, $1.10; fourth, $0.60; and so on. pack, $2.30; second, $1.60; third, $1.10; fourth, $0.60; and so on. Suppose your loses from my smoking are $0.40 per pack. Suppose your loses from my smoking are $0.40 per pack.

Question 1: How many packs do I smoke in the competitive-Question 1: How many packs do I smoke in the competitive-equilibrium? Is that consumption efficient? (Hint: On the 3equilibrium? Is that consumption efficient? (Hint: On the 3rdrd pack, I gain $0.10 consumer surplus, but you loose $0.40)pack, I gain $0.10 consumer surplus, but you loose $0.40)Question 2: Name a tax on cigarettes that’s so high that the tax Question 2: Name a tax on cigarettes that’s so high that the tax equilibrium is inefficient. (Hint: Without tax, on the 1equilibrium is inefficient. (Hint: Without tax, on the 1stst pack, I pack, I gain $1.30 surplus and you loose $0.40.)gain $1.30 surplus and you loose $0.40.)Question 3: Name a tax on a pack of cigarettes that makes the Question 3: Name a tax on a pack of cigarettes that makes the tax equilibrium efficient. (Hint: Compute efficient # of packs?)tax equilibrium efficient. (Hint: Compute efficient # of packs?)


5 5

The Demand and Supply for CigarettesThe Demand and Supply for CigarettesThe height of the demand curve is the The height of the demand curve is the marginal benefit marginal benefit from the from the last pack of cigarettes. It is the value of cigarettes to the last last pack of cigarettes. It is the value of cigarettes to the last consumer. For example, the marginal benefit of the 5,000consumer. For example, the marginal benefit of the 5,000thth pack pack is $10.is $10.

S

D = MB

0 5,000 10,000 15,000

$14

12

10

8

6

4

2

E

Price of a pack of

cigarettes

Quantity of cigarettes

Equilibrium quantity

Equilibrium price


A


6 6

The Demand and Supply for Cigarettes The Demand and Supply for Cigarettes The height of the supply curve is the The height of the supply curve is the marginal cost marginal cost of the last of the last pack of cigarettes. It is the cost of producing to the last producer. pack of cigarettes. It is the cost of producing to the last producer. For example, the marginal cost of the 5,000 For example, the marginal cost of the 5,000thth pack is $6. pack is $6.

S = MC

D = MB

0 5,000 10,000 15,000

E

Price of a pack of

cigarettes



Equilibrium price


B


$14

12

10

8

6

4

2

7 7

A Negative Externality in Consumption A Negative Externality in Consumption can be analyzed by a can be analyzed by a decrease in the marginal social benefit of consumption below the decrease in the marginal social benefit of consumption below the marginal benefit to consumers. (If a smoker benefits $8.20 and marginal benefit to consumers. (If a smoker benefits $8.20 and non-smokers lose $4.00, then society as a whole benefits $4.20) non-smokers lose $4.00, then society as a whole benefits $4.20)

S = MC

D = MB

0 5,000 10,000 15,000

E

Price of a pack of

cigarettes




$14

12

10

8

6

4

2 MSB

MSB curve shifts downward by the amount of the externality --- the

marginal external effect

8 8

Total surplus is maximal (optimal) Total surplus is maximal (optimal) when marginal social benefit when marginal social benefit equals marginal cost. A Pigouvian tax on consumers lowers their equals marginal cost. A Pigouvian tax on consumers lowers their marginal benefit to equal MSB, and so equilibrium quantity is marginal benefit to equal MSB, and so equilibrium quantity is optimal. optimal.

S = MC

D = MB

0 5,000 10,000 15,000

Buyers’ price of a pack of cigarettes



B


$14

12

10

8

6

4

2 MSB

Pigouvian tax = $4 per unit

A

9 9

Optimal (Pigouvian) Taxes on Consumption Optimal (Pigouvian) Taxes on Consumption equal equal the marginal the marginal external effectexternal effect of the last unit consumed. of the last unit consumed. Without the tax, Without the tax, equilibrium quantity is too high, and it is possible to make equilibrium quantity is too high, and it is possible to make everyone better off by reducing consumption.everyone better off by reducing consumption.




Optimal Taxes on ProductionOptimal Taxes on Production


11 11

Pollution is a bad thing. Yet most pollution is a side effect of activities that provide us with good things, such as steel.

Pollution is a side effect of useful activities, so the optimal quantity of pollution isn’t zero.

Then, how much pollution should a society have? What are the costs and benefits of pollution?



12 12

The Demand and Supply for SteelThe Demand and Supply for SteelThe height of the demand curve is the The height of the demand curve is the marginal benefit marginal benefit from the from the last ton of steel. It is the value of steel to the last consumer. For last ton of steel. It is the value of steel to the last consumer. For example, the marginal benefit of the 5,000example, the marginal benefit of the 5,000thth ton is $100. ton is $100.

S

D = MB

0 5,000 10,000 15,000

$140

120

100

80

60

40

20

E

Price of a ton of steel

Quantity of steel


Equilibrium price


A


13 13

The Demand and Supply for Cigarettes The Demand and Supply for Cigarettes The height of the supply curve is the The height of the supply curve is the marginal cost marginal cost of the last ton of the last ton of steel. It is the cost of producing to the last producer. For of steel. It is the cost of producing to the last producer. For example, the marginal cost of the 5,000example, the marginal cost of the 5,000thth ton is $60. ton is $60.

S = MC

D = MB

0 5,000 10,000 15,000

E


Quantity of steel


Equilibrium price


B

$140

120

100

80

60

40

20


14 14

A Negative Externality in Production A Negative Externality in Production can be analyzed by an can be analyzed by an increase in the marginal social cost of production above the increase in the marginal social cost of production above the marginal cost to producers. (If producers’ costs are $82 and the marginal cost to producers. (If producers’ costs are $82 and the environmental costs are $40, then societies’ costs are $122.) environmental costs are $40, then societies’ costs are $122.)

S = MC

D = MB

0 5,000 10,000 15,000

E


Quantity of steel


MSC

MSC curve shifts upward by the amount of the externality --- the


$140

120

100

80

60

40

20


15 15

Total surplus is maximal (optimal) Total surplus is maximal (optimal) when marginal benefit equals when marginal benefit equals marginal social cost. A Pigouvian tax on producers raises their marginal social cost. A Pigouvian tax on producers raises their marginal cost to equal MSC, and so equilibrium quantity is marginal cost to equal MSC, and so equilibrium quantity is optimal. optimal.

S = MC

D = MB

0 5,000 10,000 15,000


Quantity of steel


B

Pigouvian tax = $40 per unit

A

$140

120

100

80

60

40

20

MSC


16 16

Optimal (Pigouvian) Taxes on Production Optimal (Pigouvian) Taxes on Production equal equal the marginal the marginal external effectexternal effect of the last unit produced. of the last unit produced. Without the tax, Without the tax, equilibrium quantity is too high, and it is possible to make equilibrium quantity is too high, and it is possible to make everyone better off by reducing production.everyone better off by reducing production.




Optimal Subsidies on ConsumptionOptimal Subsidies on Consumption


18 18

The Demand and Supply for Flu ShotsThe Demand and Supply for Flu ShotsThe height of the demand curve is the The height of the demand curve is the marginal benefit marginal benefit from the from the last flu shot. It is the value of a flu shot to the last consumer. For last flu shot. It is the value of a flu shot to the last consumer. For example, the marginal benefit of the 10,000example, the marginal benefit of the 10,000thth shot is $4. shot is $4.

S

0 5,000 10,000 15,000

$14

12

10

8

6

4

2

Price of a flu shot

Quantity of flu shots


Equilibrium price



D = MB

EA

19 19

The Demand and Supply for Flu ShotsThe Demand and Supply for Flu ShotsThe height of the supply curve is the The height of the supply curve is the marginal cost marginal cost of the last flu of the last flu shot. It is the cost of producing to the last producer. For shot. It is the cost of producing to the last producer. For example, the marginal cost of the 10,000example, the marginal cost of the 10,000thth shot is $8. shot is $8.

0 5,000 10,000 15,000

$14

12

10

8

6

4

2

B

Price of a flu shot





D = MB

EEquilibrium

price

S = MC

20 20

A Positive Externality in Consumption A Positive Externality in Consumption can be analyzed by an can be analyzed by an increase in the marginal social benefit of consumption below the increase in the marginal social benefit of consumption below the marginal benefit to consumers. (If a patient benefits $4.20 and marginal benefit to consumers. (If a patient benefits $4.20 and others benefits $4.00, then society as a whole benefits $8.20) others benefits $4.00, then society as a whole benefits $8.20)

S = MC

MSB

0 5,000 10,000 15,000

Price of a flu shot



$14

12

10

8

6

4

2 D = MB

MSB curve shifts upward by the amount of the externality --- the



E

21 21

Total surplus is maximal (optimal) Total surplus is maximal (optimal) when marginal social benefit when marginal social benefit equals marginal cost. A Pigouvian subsidy on consumers raises equals marginal cost. A Pigouvian subsidy on consumers raises their marginal benefit to equal MSB, and so equilibrium quantity their marginal benefit to equal MSB, and so equilibrium quantity is optimal. is optimal.

S = MC

D = MB

0 5,000 10,000 15,000

Buyers’ price of a flu shot



$14

12

10

8

6

4

2 MSB

Pigouvian subsidy = $4 per unit


B

A

22 22

Optimal (Pigouvian) Subsidies on Consumption Optimal (Pigouvian) Subsidies on Consumption equal equal the the marginal external effectmarginal external effect of the last unit consumed. of the last unit consumed. Without the Without the tax, equilibrium quantity is too low, and it is possible to make tax, equilibrium quantity is too low, and it is possible to make everyone better off by increasing consumption.everyone better off by increasing consumption.




Optimal Subsidies on ProductionOptimal Subsidies on Production


24 24

The Demand and Supply for HoneyThe Demand and Supply for HoneyThe height of the demand curve is the The height of the demand curve is the marginal benefit marginal benefit from the from the last case of honey. It is the value of honey to the last consumer. last case of honey. It is the value of honey to the last consumer. For example, the marginal benefit of the 10,000For example, the marginal benefit of the 10,000thth case is $80. case is $80.

D = MB

0 5,000 10,000 15,000

$140

120

100

80

60

40

20

A

Price of a case of honey


E



S

Equilibrium price

Quantity of honey

25 25

The Demand and Supply for Cigarettes The Demand and Supply for Cigarettes The height of the supply curve is the The height of the supply curve is the marginal cost marginal cost of the last ton of the last ton of steel. It is the cost of producing to the last producer. For of steel. It is the cost of producing to the last producer. For example, the marginal cost of the 10,000example, the marginal cost of the 10,000thth case is $120. case is $120.

D = MB

0 5,000 10,000 15,000


Quantity of honey


Equilibrium price


$140

120

100

80

60

40

20


E

B

S = MC

26 26

A Positive Externality in Production A Positive Externality in Production can be analyzed by an can be analyzed by an decrease in the marginal social cost of production below the decrease in the marginal social cost of production below the marginal cost to producers. (If producers’ costs are $122 and the marginal cost to producers. (If producers’ costs are $122 and the environmental benefits to plants are $40, then societies’ costs are environmental benefits to plants are $40, then societies’ costs are $82.) $82.)

MSC

D = MB

0 5,000 10,000 15,000


Quantity of honey


S = MC

MSC curve shifts downward by the amount of the externality --- the


$140

120

100

80

60

40

20


E

27 27

Total surplus is maximal (optimal) Total surplus is maximal (optimal) when marginal benefit equals when marginal benefit equals marginal social cost. A Pigouvian tax on producers lowers their marginal social cost. A Pigouvian tax on producers lowers their marginal cost to equal MSC, and so equilibrium quantity is marginal cost to equal MSC, and so equilibrium quantity is optimal. optimal.

MSC

D = MB

0 5,000 10,000 15,000


Quantity of honey


Pigouvian subsidy = $40 per unit

$140

120

100

80

60

40

20

S = MC


B

A

28 28

Optimal (Pigouvian) Subsidies on Production Optimal (Pigouvian) Subsidies on Production equal equal the marginal the marginal external effectexternal effect of the last unit produced. of the last unit produced. Without the subsidy, Without the subsidy, equilibrium quantity is too lower, and it is possible to make equilibrium quantity is too lower, and it is possible to make everyone better off by increasing production.everyone better off by increasing production.



29 29

Controversy: Value of Human LifeControversy: Value of Human Life


Controversy: Value of Human LifeControversy: Value of Human Life

30 30BA 210 Lesson III.4 Externalities

There are several practical problems to overcome whenThere are several practical problems to overcome whenmeasuring the harmful marginal external effect of negative measuring the harmful marginal external effect of negative externalities like smoking cigarettes or producing pollution. If, externalities like smoking cigarettes or producing pollution. If, say, the last cigarette pack increased by 0.00001% the chance of say, the last cigarette pack increased by 0.00001% the chance of people near you dying of cancer, you must place a dollar value on people near you dying of cancer, you must place a dollar value on their lives to determine the optimal tax. their lives to determine the optimal tax.

Controversy: WelfareControversy: Welfare


What is the dollar value of someone's life? Is it infinity? --- as What is the dollar value of someone's life? Is it infinity? --- as Catholics and lawyers tell us. Maybe they are right, but as Catholics and lawyers tell us. Maybe they are right, but as economists we work under the assumption of rationality. economists we work under the assumption of rationality. Someone's life has the same value that they place on it.Someone's life has the same value that they place on it.



For example, suppose that by inspecting your roof yourself, For example, suppose that by inspecting your roof yourself, rather than having someone else do it for you, you save $20, but rather than having someone else do it for you, you save $20, but increase your chance of death (by falling) by 0.0001%. Consider increase your chance of death (by falling) by 0.0001%. Consider these implications:these implications:

Since rich people do not find $20 enough incentive to inspect Since rich people do not find $20 enough incentive to inspect their own roofs, the value of their lives is more than $20.their own roofs, the value of their lives is more than $20.

Since poor people do find $20 enough incentive to inspect their Since poor people do find $20 enough incentive to inspect their own roofs, the value of their lives is less than $20.own roofs, the value of their lives is less than $20.

In particular, the cost of risking a rich person's life is greater than In particular, the cost of risking a rich person's life is greater than the cost of risking a poor person's life. the cost of risking a poor person's life.



The optimal tax on various negative externalities is affected by The optimal tax on various negative externalities is affected by the difference in cost of risking a rich person's life and risking a the difference in cost of risking a rich person's life and risking a poor person's life:poor person's life: Drunk and reckless driving and speeding should be more Drunk and reckless driving and speeding should be more heavily enforced and punished in rich neighborhoods.heavily enforced and punished in rich neighborhoods. Dumping toxic waste should be more heavily restricted and Dumping toxic waste should be more heavily restricted and punished in rich neighborhoods.punished in rich neighborhoods.



SummarySummary

SummarySummary

35 35

Review QuestionsReview Questions


Review QuestionsReview Questions You should try to answer some of the following questions You should try to answer some of the following questions before the next class. before the next class. You will not turn in your answers, but students may request You will not turn in your answers, but students may request to discuss their answers to begin the next class. to discuss their answers to begin the next class. Your upcoming cumulative Final Exam will contain some Your upcoming cumulative Final Exam will contain some similar questions, so you should eventually consider every similar questions, so you should eventually consider every review question before taking your exam.review question before taking your exam.

36 36



Follow the linkFollow the linkhttp://faculty.pepperdine.edu/jburke2/ba210/PowerP3/Set11Answers.pdf

for review questions for Lesson III.4for review questions for Lesson III.4



Review Question 1Review Question 1



Question 1. Question 1. To understand how to promote social behavior, To understand how to promote social behavior, consider the lifetime demand for flu shots by a typical (selfish) consider the lifetime demand for flu shots by a typical (selfish) person:person:

Suppose the marginal cost of producing flu shots is $1.20 per Suppose the marginal cost of producing flu shots is $1.20 per shot. Suppose that each person has 2 co-workers, and each shot. Suppose that each person has 2 co-workers, and each benefits by $0.10 for each shot the person takes.benefits by $0.10 for each shot the person takes.

If the government imposes the optimal subsidy, howIf the government imposes the optimal subsidy, howmany shots does each person take?many shots does each person take?

$ price per shot

0.00 0.60 0.90 1.00 1.10 1.20 1.30 1.40 1.50

Shots demanded

8 7 6 5 4 3 2 1 0



Answer 1. Answer 1. Since shots are an example of a positive consumption Since shots are an example of a positive consumption externality, use this formula: (Optimal subsidy) = (marginal externality, use this formula: (Optimal subsidy) = (marginal external effect on everyone else). Hence, given the data, external effect on everyone else). Hence, given the data, (Efficient subsidy) = 2 × 0.10 = 0.20 (Efficient subsidy) = 2 × 0.10 = 0.20 Hence, the buyer’s price falls from 1.20 to 1.20−.20 = 1.00. Hence, the buyer’s price falls from 1.20 to 1.20−.20 = 1.00. Conclusion: Reading from the demand curve, 5 shots are taken Conclusion: Reading from the demand curve, 5 shots are taken by each person.by each person.

$ price per shot

0.00 0.60 0.90 1.00 1.10 1.20 1.30 1.40 1.50

Shots demanded

8 7 6 5 4 3 2 1 0



Question 2. Question 2. To understand how to control anti-social behavior, To understand how to control anti-social behavior, consider a world with 6 people: 1 drinks and drives, 5 do not consider a world with 6 people: 1 drinks and drives, 5 do not drink. Here is the demand for shots of whisky by the drinker. drink. Here is the demand for shots of whisky by the drinker.

Suppose each of the 5 drink-haters loses $0.05 of happiness for Suppose each of the 5 drink-haters loses $0.05 of happiness for each pint the drinker drinks. (The cost includes the chance of each pint the drinker drinks. (The cost includes the chance of being killed by the drunk driver.) Suppose the unit cost of being killed by the drunk driver.) Suppose the unit cost of producing whisky is $0.40 per shot, and the market is perfectly producing whisky is $0.40 per shot, and the market is perfectly competitive.competitive.

$ price per shot

0.00 0.40 0.70 1.00 1.20 1.30 1.40 1.50

Shots demanded

7 6 5 4 3 2 1 0



Assuming there are no taxes or subsidies, compute total surplus. Assuming there are no taxes or subsidies, compute total surplus.

Assuming the government imposes the optimal tax, compute the Assuming the government imposes the optimal tax, compute the number of shots of whisky that are drunk.number of shots of whisky that are drunk.

Assuming the government imposes the optimal tax, then compute Assuming the government imposes the optimal tax, then compute total surplus.total surplus.

$ price per shot

0.00 0.40 0.70 1.00 1.20 1.30 1.40 1.50

Shots demanded

7 6 5 4 3 2 1 0



Answer 2.Answer 2.

Since the market is perfectly competitive, the sellers’ price of Since the market is perfectly competitive, the sellers’ price of whisky is $0.40 per shot.whisky is $0.40 per shot.

Assuming there are no taxes or subsidies, consumption = 6, Assuming there are no taxes or subsidies, consumption = 6, producer surplus = 0, consumer surplus producer surplus = 0, consumer surplus = 1.00+0.90+0.80+0.60+0.30+0.00 minus 5= 1.00+0.90+0.80+0.60+0.30+0.00 minus 5xx0.050.05xx6 = $2.10,6 = $2.10,So total surplus is $2.10So total surplus is $2.10

$ price per shot

0.00 0.40 0.70 1.00 1.20 1.30 1.40 1.50

Shots demanded

7 6 5 4 3 2 1 0



Assuming the government imposes the optimal tax = marginal Assuming the government imposes the optimal tax = marginal external effect = 5external effect = 5xx0.05 per shot, the buyers’ price of whisky is 0.05 per shot, the buyers’ price of whisky is 0.40+0.25 = $0.65 per shot, so 5 shots of whisky are drunk.0.40+0.25 = $0.65 per shot, so 5 shots of whisky are drunk.

Assuming the government imposes the optimal tax, consumption Assuming the government imposes the optimal tax, consumption = 5, producer surplus = 0, consumer surplus = 5, producer surplus = 0, consumer surplus = 0.75+0.65+0.55+0.35+0.05 = $2.35,= 0.75+0.65+0.55+0.35+0.05 = $2.35,Since the tax revenue balances the external effect, the optimal tax Since the tax revenue balances the external effect, the optimal tax increased total surplus to $2.35increased total surplus to $2.35

$ price per shot

0.00 0.40 0.70 1.00 1.20 1.30 1.40 1.50

Shots demanded

7 6 5 4 3 2 1 0



Question 3. Question 3. To understand how to control anti-social behavior, To understand how to control anti-social behavior, consider a world with 9 people: 1 smokes, 3 do not care about consider a world with 9 people: 1 smokes, 3 do not care about smoke, 5 hate the smell of smoke. Here is the demand for smoke, 5 hate the smell of smoke. Here is the demand for cigarettes by the smoker.cigarettes by the smoker.

Suppose each of the 5 smoke-haters loses $0.10 of happiness for Suppose each of the 5 smoke-haters loses $0.10 of happiness for each pack the smoker smokes.(The cost includes the chance of each pack the smoker smokes.(The cost includes the chance of dying from second-hand smoke.) Suppose the unit cost of dying from second-hand smoke.) Suppose the unit cost of producing cigarettes is $0.20 per pack, and the market is producing cigarettes is $0.20 per pack, and the market is perfectly competitive.perfectly competitive.

$ price per pack

0.00 0.20 0.40 0.70 1.00 1.20 1.30 1.40 1.50

Packs demanded

8 7 6 5 4 3 2 1 0



Assuming there are no taxes or subsidies, compute total surplus. Assuming there are no taxes or subsidies, compute total surplus.

Assuming the government imposes the optimal tax, compute the Assuming the government imposes the optimal tax, compute the number of shots of whisky that are drunk.number of shots of whisky that are drunk.

Assuming the government imposes the optimal tax, then compute Assuming the government imposes the optimal tax, then compute total surplus.total surplus.

$ price per pack

0.00 0.20 0.40 0.70 1.00 1.20 1.30 1.40 1.50

Packs demanded

8 7 6 5 4 3 2 1 0



Answer 2.Answer 2.

Since the market is perfectly competitive, the sellers’ price of Since the market is perfectly competitive, the sellers’ price of cigarettes is $0.20 per pack.cigarettes is $0.20 per pack.

Assuming there are no taxes or subsidies, consumption = 7, Assuming there are no taxes or subsidies, consumption = 7, producer surplus = 0, consumer surplus producer surplus = 0, consumer surplus = 1.20+1.10+1.00+0.80+0.50+0.20+0.00 - 5= 1.20+1.10+1.00+0.80+0.50+0.20+0.00 - 5xx0.100.10xx77 = $1.30, = $1.30,So total surplus is $1.30So total surplus is $1.30

$ price per pack

0.00 0.20 0.40 0.70 1.00 1.20 1.30 1.40 1.50

Packs demanded

8 7 6 5 4 3 2 1 0



Assuming the government imposes the optimal tax = marginal Assuming the government imposes the optimal tax = marginal external effect = 5external effect = 5xx0.10 per pack, the buyers’ price of cigarettes 0.10 per pack, the buyers’ price of cigarettes is 0.20+0.70 = $0.70 per pack, so 5 packs are smoked.is 0.20+0.70 = $0.70 per pack, so 5 packs are smoked.

Assuming the government imposes the optimal tax, consumption Assuming the government imposes the optimal tax, consumption = 5, producer surplus = 0, consumer surplus = 5, producer surplus = 0, consumer surplus = 0.70+0.60+0.50+0.30+0.00 = $2.10,= 0.70+0.60+0.50+0.30+0.00 = $2.10,Since the tax revenue balances the external effect, the optimal tax Since the tax revenue balances the external effect, the optimal tax increased total surplus to $2.10increased total surplus to $2.10

$ price per pack

0.00 0.20 0.40 0.70 1.00 1.20 1.30 1.40 1.50

Packs demanded

8 7 6 5 4 3 2 1 0

50 50

End of Lesson III.4End of Lesson III.4


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