Question

use their own word and sentence structures.

Pls describe the "Optimal output for a good with positive externalities" by plotting necessary graphics.

Answer 1

A positive externality is a type of consequential benefit to a third party due to some economic activity in which the benefited party may or may not be involved. This benefit is not charged and is attained by an individual or a group due to some economic activity.

Let us understand this with a help of an example.

Say that X motor company comes up with a filtration system for vehicles of all categories / segments, that filters the harmful unburnt carbon particles emitted in the process of combustion in the engines, and reduces carbon emissions by over 98%. This has been revolutionary in the transportation industry and almost 75% of air pollution caused directly by vehicles have been reduced to small 15%. The innovation has brought cleaner and more breathable air in major metropolitan areas and has also increased the fuel efficiency and engine performance of the cars that is fitted with the filter.

The optimal price and output of the air filtration system by X motor company is at:

Y 110 pruce roo Supply 90 80 70 bo E ho 30 - Demand 10+ + + 2 3 4 Output million units

We see from the above diagram, that the equilibrium price stands at $50 and the equilibrium output is at 3 million units of air filtration systems. But, it is known that the air filtration system from X motor company, has a lot of benefits to its users and to the society, And some of the societal benefits and marginal consumer benefits are;

• Better Air quality
• Reduced levels of air pollution due to carbon emission
• Better Engine performance and thus extended life of the vehicle
• Better Fuel economy as more miles can be driven by the gallon.
• Health benefits to those who travel a lot by vehicles.
• An overall cleaner atmosphere and promotes sustainable growth and development.

With all these benefits given to the society and to the users of the Air Filtration system , let us assume and approximately estimate that there is a $10 value to all the free benefits that the Air filtration system by X motor company provides to the society.

Now, if the market for this Air filtration system were let on as how it operates now, we are able to attain the socially optimal price and output for the Air filtration system by X motor company. Let us see another diagram;

Price Ya 110 Societal Benefits Deal Weight supply (00 lass 90 80 70 60 KE хр 40 so MB Coire 20 Demand 10 2 3 4 5 6 O Х Output in Million units

In the above diagram, the demand curve shift rightward to the External benefit and Marginal Benefit Curve. We also see that equilibrium price and output increases to $60 and 4 million units respectively.

There is benefit to the society ( green patch ) and also a dead weight loss (blue patch) towards to the company as well as to the society. When there is an externality of any sort, it has to be fairly compensated for social cost / benefit . If there is a negative externality, a tax or a fine has to be imposed on the firm responsible. In this case of a positive externality, the company and the society could benefit with a form of government policy on tax concession or subsidy so that the dead weight loss generated could be cleared off. So the government could grant a form of subsidy or a tax concession towards the company so that X motor company could afford and profit by producing more, thus contributing more benefits towards the society.

Thus the social optimal on price and output of a good that with positive externalities is identified and understood.