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    External Cost

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    Suppose the external marginal cost of pollution is MCext = 5Q and the internal marginal cost is MCint = 10Q . Further, assume the inverse demand for the product, Q, is given by P = 90-Q .

    a. What is the socially efficient level of output?

    b. How much output would a competitive industry produce?

    c. How much output would a monopoly produce?

    d. Discuss three ways government can induce firms to produce the socially efficient level of output.

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    Solution Preview

    Socially efficient level of output will be when Total MC = Total MR.
    Total Marginal Cost = 5Q + 10Q = 15Q
    Marginal Revenue = 90 - 2Q
    Thus MC=MR when 15Q = 90 - 2Q
    => 17Q = 90
    => Q ...

    Solution Summary

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